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THE POLITICAL ECONOMY OF CORPORATE LAWREFORM IN AUSTRALIA

Michael J Whincop*

INTRODUCTION: REFORM AND REALPOLITIK

The decision to centralise, or to decentralise, the responsibility for law-making inrelation to a subject of shared legislative competence is a fundamental dilemma for thepolities of a federation. The advantages and disadvantages of both are well known.1

Amongst other things, centralisation promotes national unity, it decreases regulatory"arbitrage", it may reduce search and compliance costs, and it capitalises on economiesof scale in administration and law-making. By contrast, decentralisation is morereceptive to local conditions, and offers the advantages that derive from interjurisdictional competition.

Australian corporate law has seen its share of the debate.2 That debate has beenundeniably directional-there has been, over the past forty years, considerablemomentum towards centralisation.3 Each legislative step taken in that period has beenone closer to centralised national laws and administration. The only real oppositioncame to the Commonwealth's attempt to arrogate legislative power to itself in theCorporations Act 1989 (Cth), which the High Court struck down as unconstitutiona1.4

After the States were duly bribed, they acquiesced in a scheme which achieved most of

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BCom (Hons), LLB (Hons) MFM (Qld), PhD (Griff). Senior Lecturer, Faculty of Law,Griffith University. I wish to thank Ian Ramsay and an anonymous referee for helpfulcomments, and Oliver Bennett and Elsa van Wijk for research assistance.On the economics of federalism, see F H Easterbrook, "Antitrust and the Economics ofFederalism" (1983) 26 J L & Econ 23; D N King, Fiscal Tiers: The Economics of Multi-LevelGovernment (1984); R A Posner, Economic Analysis of Law (4th ed 1992) at 635-650; 5 RoseAckerman, "Does Federalism Matter? Political Choice in a Federal Republic" (1981) 89 J PolEcon 152; C M Tiebout, "A Pure Theory of Public Expenditures" (1956) 64 JPol Econ 416.An overview of the debate can be found in I M Ramsay, "Company Law and the Economicsof Federalism" (1990) 19 F L Rev 169 at 170-172. The federalism debate rode its peak shortlyafter New South Wales v Commonwealth (The Incorporation case) (1990) 169 CLR 482.For a discussion of the transition from the Uniform Companies Acts of the 1960s, to thecooperative scheme legislation of the 1980s, to the current national scheme laws, seeH A JFord, R P Austin and I M Ramsay, Ford's Corporations Law in Australia (8th ed 1997) at46-53.New South Wales v Commonwealth (1989) 169 CLR 482.

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the centralisation the invalid Act had sought.5 State legislation was enacted to maintainan almost amusing pretence that the Commonwealth's legislation applied as Statelaw-notwithstanding the Commonwealth's structural domination of the forum forcorporate law reform, the Ministerial Council for Corporations.6 Since then, nothinghas disturbed the equilibrium. That includes the unexpected scare of the High Court'sdecision in Gould v Brown.7 In that case, the vesting of "State" jurisdiction under theCorporations Law in the Federal Court was viewed as unconstitutional by threejudges. Even if the view was endorsed by one of the two new justices, it would be nogreat threat to the national scheme. The Federal Court would simply fall back to theprevious principles of associated jurisdiction.8

We have now had uniform laws for almost twenty years, and uniformadministration for almost ten. This article asks whether there is a case for returningpower to the States to enact and administer their own corporations laws, and, if so,how much power? Given the debate's momentum, anyone who would answer thosequestions affirmatively bears a weighty onus. Even the natural advocates ofdecentralised federalism-political conservatives and academic lawyer-economistshave found enthusiasm for state corporate law hard to muster. The current Treasurer,the Hon Peter Costello, supported national law in opposition.9 The law reformprogram he has sponsored in government has not even regarded decentralisation as anissue worthy of scrutiny. The most substantial theoretical treatment of the subject, IanRamsay's article in this Review, is agnostic about the choice.10

In answering this question, I acknowledge the realpolitik of the situation. Change isunlikely. The arrangement is a cushy one for most of the parties concerned. The State'sindexed grants keep them fairly happy.11 Unless the tax base was substantially

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Commonwealth, State and Northern Territory Law Officers, Heads of Agreement for FutureCorporate Regulation (1990). The Heads of Agreement are often known as the Alice SpringsAgreement after the place where agreement was reached. The States agreed to thepreparation of uniform legislation to be enacted by the Commonwealth Parliament, andapplied by the States. The Commonwealth agreed to pay grants to each of the States tocompensate them for the revenue lost by surrendering administration to theCommonwealth. See H A JFord et aI, above n 3 at 52; R Tomasic and S Bottomley,Corporations Law in Australia (1995) at 75-76.A Ministerial Council was established in December 1978 in a formal agreement betweenthe Commonwealth and the States. It was to supervise the administrative body created bythat agreement. The Alice Springs Agreement reconstitutes that Council as a MinisterialCouncil for Corporations. It is the primary body for deliberations by the States and theCommonwealth regarding amendments to the legislation, except for those regardingtakeovers, securities, futures, and public fundraising, which are within theCommonwealth's sole responsibility. Amendments on other matters are not to beintroduced without the Council's approval. Each State and the Northern Territory has onevote, but the Commonwealth has four deliberative and one casting votes.(1998) 26 ACSR 317.Stack v Coast Securities (No 9) Pty Ltd (1983) 154 CLR 261; Fencott v Muller (1983) 46 ALR 41.The Hon P Costello, "Restoring Confidence in Corporate Morality" (1990) 34 Quadrant 20.I M Ramsay, above n 2. See below text accompanying nn 167-173.Aboven5.

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changed, the States' incentive to compete for incorporations would be quite weak.12

The Commonwealth controls the reform agenda as a monopolistic supplier of aproduct-corporate law-with an inelastic demand, with all of the advantages thatentails.

The fact that a political deal is a stable one does not necessarily make it a good one.The test is not whether the Commonwealth can keep supplying laws-clearly, it canbut whether some other arrangement would produce better laws. The stimulus forexamining this issue is the Corporate Law Economic Reform Program (CLERP),introduced by the current government in 1997.13 I shall argue that while one may agreewith the basic premise of CLERP-improving economic efficiency and reducingtransaction costs-we can have little confidence in the path the program claims willlead us to those goals. CLERP persists in the great delusion of central governmentsthat they can pick optimal corporate governance terms better than the parties tocorporate contracts. The key C14ERP reforms-fundraising, takeovers, directors' dutiesand corporate governance-are only marginally more likely to be preferred than therules they replace. I develop this argument in Part II.

We must therefore go beyond the current reform debates to revisit the dynamics ofcorporate law reform in this country. We need a process of "metareform", whichrevisits the responsibilities for producing and reforming corporate law rules. Part IIIcanvasses a range of options regarding metareform. The most obvious alternative tothe status quo is state competition in respect of some or all of the areas of the law. I alsoexamine "simulated" federalism, which would entitle individual states to convertcurrent sections of the Corporations Law into menus, with the extant rule being thedefault where corporate contracts do not otherwise express a choice. I consider themerits of industry regulation by permitting stock exchanges to compete with theCommonwealth for incorporations. My preference lies with state competition, withsome exceptions being made for external administration, securities and futuresregulation, and minimum standards for takeovers. Part IV examines the role of theCommonwealth in this model. It can serve a vital role in upholding the integrity ofcompetition. Part V is a conclusion, which links this article with a larger, at timesselective, debate about monopolies in this country.

THE CORPORATE LAW ECONOMIC REFORM PROGRAM

ContextThe background to CLERP is studied elsewhere.14 It replaced the Corporate LawSimplification Taskforce initiative introduced by the previous government. Appointedin October 1993, the Taskforce was charged with simplifying Australia's corporatelegislation, in order to make the Corporations Law a better expressed document, and

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D J Cumming and JG Macintosh, "The Role of Interjurisdictional Competition in ShapingCanadian Corporate Law" (1997) unpublished paper (trivial gains from attractingincorporations fatal to competition).Corporate Law Economic Reform Program, Strategy Document (1997).The Treasurer, "New Focus for Corporate Law", Press Release No 15, 4 March 1997; B Baxt,"Costello's Dual Challenge" 13:8 Co Director 25; R Tomasic, Editorial (1997) 7:2 Aust J Corp L;I Campbell, "Corporate Law Economic Reform Program: Returning the Law to itsFundamental Purpose" (1997) 49 Aust Co Sec 138.

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in order to reflect a proper balance between deregulation and facilitation.1S I havepreviously argued that the Taskforce was insufficiently critical of the basic soundnessof current legal rules.16

The Taskforce's failures arose from two sources. On one hand, the Commonwealthgovernment does not have to compete with any other jurisdiction for incorporations.Some companies may choose to incorporate elsewhere in the world, but for thosecarrying on business in Australia this is not a very serious option.17 Exit costs are toohigh. Insulated from competition, the likelihood of the Commonwealth being able toascertain and provide the corporate law rules that shareholders, managers, andpromoters want is small. On the other hand, the Taskforce failed to examine thebalance between mandatory and enabling rules. The Corporations Law contains a highnumber of mandatory statutory rules. Parties cannot contract around these rules, eventhough there might be compelling reasons to expect that they may not be universallypreferred, and maybe even reasons to expect that they are not even preferred bymajority. Thus, some or all parties must contract on the basis of terms that do notmaximise the value of their exchange.

There is a relationship between legal rules that restrict or eliminate choice, andpolitical arrangements that eliminate competition. The latter facilitates the former.Limiting contractual choices is a nugatory policy if there is a sufficiently wide choice oflegal regimes available to the parties. Provided choice of law rules do not requirephysical relocation, choice of incorporation state simply replaces choice of contractualterms.18 If the Commonwealth had competitors, corporate constituencies would votewith their feet for the rules they prefer. Deprived of a feasible opportunity to exit aregime offering disfavoured mandatory rules, these constituencies simply have to grinand bear it. Even if it wanted to improve the quality of its law, the Commonwealthlacks the information about preferences that is implicit in observable contracting out ofits own rules or the exit to other legal systems.

The important point is not what the Taskforce did wrong, but whether theseproblems pervade any attempt by the Commonwealth to do a better job. Would thedeficiencies of the Taskforce be corrected if its normative oblivion was addressed bythe specification of appropriate goals?19 If so, the policy issue is how these goals can beinstitutionalised in corporate law reform, and how progress in achieving them mightbe measured. If, however, the answer is no, we must consider the metareformquestion. At last, we have an opportunity to answer this question. The announcement

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I Govey, "The Simplification Process: Aims and Prospects" (1995) 5 Aust J Corp L 125;M Lavarch, "The Government's Approach to Corporate Law Reform" (1994) 4 Aust JCorp L1.M J Whincop, "Trivial Pursuit: A Theoretical Perspective on Simplification Initiatives"(1997) 7 Aust JCorp L 250.B S Black, "Is Corporate Law Trivial?: A Political and Economic Analysis" (1990) 84 NWULRev 542 at 563. See also B H Kobayashi and L E Ribstein, "Federalism, Efficiency andCompetition" (1997) unpublished paper.The two are not completely interchangeable. It is better to be able to contract around rulesthan it is to be able to choose the application of another law, since one has to take theresidual mandatory rules in the chosen system: see below text accompanying nn 123-124.Cf D Wishart, "Simplification and Motherhood" 1996:2 Buttenvorths Corp L Bull 16. Seegenerally M J Whincop, "Rules, Standards, and Intransitive Statutes: What the EconomicReform of Corporate Law Might Have Looked Like" (1999) 17 C & S LJ 11.

1999 Political Economy ofCorporate Law Reform in Australia 81

in 1997 that CLERP would be established to improve the economic efficiency of the lawprovided an opportunity to separate the impact of policy from structure. The nextsection prepares the way by discussing general issues related to economic theory, aIldthe incentives of the federal government to pursue an efficiency agenda. I deal withCLERP's reforms of fundraising, takeovers, and directors duties in the followingsections.

Law and economics versus economic reformOnly a brief sketch of the economic analysis of corporate law is necessary for thispaper.20 Economic analysis regards the corporation as a network of contractingrelations. Firm organisation reduces the costs of contracting between factor suppliers,managers, and consumers of productive outputs.21 The legal IpersonaliiJ" of thecorporation is a convenient fiction which facilitates the contracting process. The roleof corporate law is to reduce these contracting costs, either by supplying contractualterms that reduce the need for formal contracting, or by supplying legal rules thatincrease the amount of information available to investors to make rational choices.23

The supply of terms that "parties would want" can be done either by supplyingstandardised terms thought to have majoritarian appeal (such as limited liability), orby ex post determinations of what individual contracting parties might have agreedto.24 Information revelation can occur through disclosure obligations.25 Permittingparties to choose terms may itself increase available information. The disclosure ofsome information may be hard to mandate. Expressing preferences for particular terms

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To confine a bibliography to book-length works, see F H Easterbrook and D R Fischel, TheEconomic Structure of Corporate Law (1991); R A Posner and K E Scott, Economics of CorporateLaw and Securities Regulation (1980); B R Cheffins, Company Law: Theory, Structure, andOperation (1996); H N Butler and L E Ribstein, The Corporation and the Constitution (1995);R Romano, The Genius ofAmerican Corporate Law (1993).R H Coase, "The Nature of the Firm" (1937) 4 Economica 386. The synthesis of this insightwith the neoclassical theory of the firm coining the nexus of contracts description occurs inA A Alchian and H Demsetz, "Production, Information Costs and Economic Organization"(1972) 62 Am Eco Rev 777 and M C Jensen and W H Meckling, "Theory of the Firm:Managerial Behaviour, Agency Costs, and Ownership Structure" (1976) 3 JFin Eco 305.M C Jensen and W H Meckling, above n 21.The idea that corporate law supplies terms that parties would want is most authoritativelyexpounded in F H Easterbrook and D R Fischel, above n 20. The idea that corporate lawmay be able to cause parties to communicate unobservable information is suggested inI Ayres and R Gertner, "Filling Gaps in Incomplete Contracts: An Economic Theory ofDefault Rules" (1989) 99 Yale LJ 87, and considered in more detail in I Ayres, "Making aDifference: The Contractual Contributions of Easterbrook and Fischel" (1992) 59 U Chi LRev 1391; J S Johnston, "Opting In and Opting Out: Bargaining for Fiduciary Duties inCooperative Ventures" (1992) 70 Wash ULQ 291; M J Whincop, "Of Fault and Default:Contractarianism as a Theory of Anglo-Australian Corporate" (1997) 21 MULR 187.I Ayres and R Gertner, above n 23 (distinguishing tailored and untailored majoritariandefault rules); M J Whincop, above n 23 (identifying tailored directors' duties defaults).Disclosure rules may be direct obligations to release information (such as an obligation toprepare accounts), or legal or equitable obligations to another party to make disclosuresprior to entering the contract: A J Duggan, M Bryan and F Hanks, Contractual Nondisclosure:An Applied Study in Modern Contract Theory (1994), M J Whincop, "Precontractual Disclosureby the Insiders of Closely Held Corporations: The Economics of Restrained Self Interest"(1997) 11 JCL 177.


may reveal that information. For example, the extent to which default rules on selfdealing are varied may reveal information about the likelihood that directors will enterself-interested transactions of that sort.26

Economic analysis overwhelmingly supports corporate law rules taking defaultform. That is, rules are subject to exclusion or variation by private treaty. The logic isfound in a corollary of the Coase theorem, that parties will contract around inefficientinitial allocations of property rights where gains from trade exceed transaction costs,and neither par~ is worse off after the bargain than they would have been if there wasno agreement.2 Corporate law is an area where contracting costs should be low, atleast for publicly traded companies, even if they are not exactly zero.28 Promotersoffering corporate securities will only propose to opt out of default rules when it isvalue maximising to do so. If exclusion of a default transferred wealth to managers,shareholders would pay less for the shares.29 Despite limits on the rationality ofindividual shareholders, economic theory points to the informational efficiency ofstock markets.3D Because prices are the product of trading by informed investors,securities prices should reflect the effect of corporate contract terms on the value of thefirm.

This contractarian conceptualisation of corporate law supports inter-jurisdictionalcompetition for incorporations. The ability to choose between state corporate lawstatutes fosters optimal contracting, because it creates a wider range of choices forcontractinJi parties, and an incentive for states to take incorporators' preferencesseriously. Because corporate contracts do not have significant third party effects,32the jurisdiction that maximises the wealth of investors should also maximise socialwealth. Thus, inter-jurisdictional competition is more likely to produce efficientcorporate law rules than monopolistic arrangements are.33 Therefore, we might askwhether CLERP's reform proposals have increased the choices available to contracting

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I Ayres and R Gertner, above n 23; I Ayres and R Gertner, "Strategic ContractualInefficiency and the Optimal Choice of Legal Rules" (1992) 101 Yale LJ 729; J S Johnston,"Strategic Bargaining and the Economic Theory of Contract Default Rules" (1990) 100 YaleLJ 615; M J Whincop, above n 23; M J Whincop, "Of Dragons and Horses: Filling Gaps inPre-Incorporation Contracts" (1998) 12 JeL 217. An outcome in which players revealinformation about themselves by the strategy they choose is described as a separatingequilibrium: D Baird, R Gertner and R Picker, Game Theory and the Law (1994) at 125-142.R H Coase, "The Problem of Social Cost" (1960) 3 JL & Econ 1.I Ayres, above n 23.F H Easterbrook and D R Fischel, above n 20 at 17.For reviews of the efficient markets literature, see E F Fama, "Efficient Capital Markets: AReview of Theory and Empirical Work" (1970) 25 J Fin 383; E F Fama, "Efficient CapitalMarkets II" (1991) 46 J Fin 1575. For application of the theory by lawyers, see R A Gilsonand R Kraakman, "The Mechanisms of Market Efficiency" (1984) 70 Va L Rev 549; INGordon and L Kornhauser, "Efficient Markets, Costly Information and Securities Research"(1985) 60 NYU L Rev 761; DC Langevoort, "Theories, Assumptions, and SecuritiesRegulation: Market Efficiency Revisited" (1992) 140 U Pa L Rev 851. For consideration byAustralian scholars, see M Blair and I M Ramsay, "Mandatory Corporate Disclosure Rulesand Securities Regulation" in G Walker and B Fisse, Securities Regulation in Australia andNew Zealand, Oxford University Press (1994) 264 at 275-277.F H Easterbrook, above n 1 at 34.F H Easterbrook and D R Fischel, above n 20 at 25-30.R Romano, above n 20.


parties, and whether its substantive reforms are justified on efficiency grounds. First,however, I want to explore theoretically the reasons why the Commonwealth'spolitical incentives to adopt such measures might be limited.

The incentive of a monopolist to optimise product quality is not necessarily nonexistent,34 but is highly ambiguous.35 What are the immediate gains to theCommonwealth if it enacts better corporate laws? Perhaps it gets more incorporationfees and annual registration fees, because more people incorporate. It is not clear,though, that better laws would lead to significantly more incorporations. The maindemand for incorporation probably arises from taxation, regulatory, liability, andflexibility advantages. The inefficiencies of corporate law only have minimal effect onthese advantages. The effect of better laws may therefore be mostly inframarginalthey would improve the efficiency of the exchanges of those who would incorporateanyway.36

Secondly, given that the information costs of the political process are high,conservatism rather than innovation is the order of the day in corporate regulation. Acorporate collapse might be spuriously associated with more suppletory laws. Weknow from the late 1980s that there is an association between a demand for regulationand the public collapse of corporate empires.37 That the laws in force at that time werealready nation-wide for all practical purposes did not deter calls for the need fornational regulation.38 Fraud can always occur where self-interest and imperfectobservability combine. However, a government has much more to lose from theoccurrence of frauds if it has reduced the "toughness" of its laws. Trying to explain tothe public that tough laws are more likely to lead to suboptimal contracts than they areto decrease fraud is not easy, if information costs are high in the political process.Hence the cycle of fraud-outcry-prescriptive legislation that is so emblematic of ourlaw.39 This cycle is limited in polities where jurisdictions compete for incorporations.40Efficient toughness should attract incorporations, excessive toughness loses them.Excessive toughness may be an institutionalised feature of monopolistic corporate lawproduction.

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A M Spence, "Monopoly, Quality, and Regulation" (1975) 6 Bell JEco 407.R Romano, "Empowering Investors: A Market Approach to Securities Regulation" (1998)107 Yale LJ 2359 at 2387-2388, referring to J Tirole, The Theory of Industrial Organization(1988) at 100-105.Cf D J Cumming and JG MacIntosh, above n 12 at 9-17. Inefficient corporate laws may,however, deter foreign investors if these investors can choose between jurisdictions.See, eg, T Sykes, Bold Riders (1994); R Baxt, "Australian Company Law: Quo Vadis?" (1990)61 Charter 20. For the theoretical relevance of political backlash to efficiency, see M J Roe,"Backlash" (1998) 98 Col L Rev 217.See the comments quoted in I M Ramsay, above n 2 at 171.W J Beerworth, "The New Tide of Corporate Legislation: Reform or Red-tape?" (1993) 5(3)Syd Papers 116 at 118-119. The Patrick-MUA saga has seen a further example, with calls forlaws to prohibit asset stripping within corporate groups: M Seccombe, "Labor Plans NewAsset Stripping Law", Sydney Morning Herald 12 May 1998 at 7.J N Gordon, "Corporations, Markets, and Courts" (1991) 91 Col L Rev 1931 at 1957-1958; DCharny, "Competition among Jurisdictions in Formulating Corporate Law Rules: AnAmerican Perspective on the 'Race to the Bottom' in the European Communities" (1991) 31Harv Int LJ 423 at 440.


The flipside of this argument is that monopoly increases the political favours thatgovernments can grant to the interest groups best situated to lobby for them, since thelosers from these bargains have nowhere to exit. The interest group often must cut adeal with every polity in a competitive system in order for it to be effective.41 I do notclaim that the Corporations Law is the misbegotten progeny of a backroom deal.Nonetheless, elements of our law have decided appeal to special interest groups.42 As Ishow later, the adherence to the equal opportunity principle, the restriction of partialtakeovers, and other takeover rules favour incumbent managers more than theyprotect investors. CLERP supports these principles explicitly or implicitly. CLERP'spervasive use of general standards and curial (rather than contractual) exculpation ofmanagers benefits corporate lawyers.

Thirdly, CLERP sug§ests that good corporate laws will have macro-benefits for theeconomy as a whole.'! By definition, efficient laws have lower social costs thaninefficient laws. But the impact of corporate law changes on macro-variables is difficultto discern, and may be substantially lagged in time. A typical growth project may takea number of years before it supports expanded employment. Governments can removeartificial barriers and constraints with corporate laws, but not much more.44 Theflipside of the employment argument is that not every improvement in corporategovernance rules increases employment.45 The obvious example is that the wave ofbust-up takeovers in the freer market for corporate control in the United States in themid-1980s. These often resulted in job losses. Some argued that there was a wealthtransfer from employees to shareholders.46 The overall effects of good corporate lawsmay be wealth increasing, and employment increasing, but freeing up private orderingin c01orations can result in substantial disruptive events of the sort politicians do notlike.4 Hence, the politician's preference may be, for example, for a more constrainedmarket for corporate control.

It should not be inferred that governments have strong incentives to deliverinefficient corporate laws. Like other forms of contract laws, corporate law does notlend itself well to the redistribution of wealth between interest groups.48 It can,however, redistribute wealth between parties to existing contracts by changing the law

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This assumes the costs of reincorporating are lower than the implicit subsidy paid to theinterest group. If the cost of the subsidy is small, even low cost exit may not be worthwhile:J R Macey and G P Miller, "Toward an Interest-Group Theory of Delaware Corporate Law"(1987) 65 Tex L Rev 469.Whincop, above n 19.CLERP "is a comprehensive initiative to improve Australia's business and companyregulation as part of the Coalition Government's drive to promote business, economicdevelopment and employment.": Corporate Law Economic Reform Program, Policy Reforms(1998) at iii.I Ayres, above n 23; B 5 Black, above n 17.M A O'Connor, "Promoting Economic Justice in Plant Closings: Exploring theFiduciary/ Contract Law Distinction to Enforce Implicit Employment Agreements" inL E Mitchell (ed), Progressive Corporate Law (1995) at 219.J C Coffee, "Corporate Governance as a Multi-Player Game" (1990) 78 Geo LJ 1495 at 15051528; J G Rosett, "Do Union Wealth Concessions Explain Takeover Premiums? TheEvidence on Contract Wages" (1990) 27 JFin Econ 247.J N Gordon, above n 40; M J Roe, above n 37.H Demsetz, IlWealth Distribution and the Ownership of Rights ll (1972) 1 JLeg Stud 223; A MPolinsky, An Introduction to Law and Economics (2nd ed 1989) at 122-123.


in favour of one of the parties, and making the term mandatory.49 For example, a safeharbour can be added where it did not exist and could not have been agreed bycontract. New contracts will price these distributive implications, but there will be awealth transfer in existing ones. Because corporate laws do not readily redistributeincome (apart from midstream changes), interest groups may not oppose welfareincreasing rules.50 And so it is that some of CLERP's reforms make sense. I concedethat my discussion is biased to those that do not. But a central government's capacity toidentify, and its incentives to deliver, important reforms are limited. Thesepropositions are illustrated in the following sections.

FundraisingA primary aim of the fundraising reforms51 is to facilitate the financing of smallmedium enterprises (SMEs).52 The pre-reform Corporations Law fundraising regimehas the following main features: (1) It advocates a generalised disclosure standard,rather than a rule based schedule of disclosure requirements.53 (2) It applies tosecurities offerings generally, subject to a small list of exemptions. These include arestricted number of "personal" offers and investments above $500,000.54 (3) It adoptswide grounds of liability for pros~ectus omissions and misstatements, and a long listof defendants subject to liability. 5 Those defendants have a general due diligencedefence and limited specific defences.56

CLERP's reforms are marked by unclear reasoning from premises to conclusions.CLERP tells us that:

Unless disclosure is mandatory, investors will be unable to distinguish poor investmentsfrom promising investments in a cost-effective way.... Non-disclosure will result insub-optimal investment and an increase in overall search costs for those investors whoare prepared to remain in the market.57

On the one hand, CLERP has ignored a substantial body of empirical evidence that theintroduction of mandatory disclosure has had little effect on securities returns.58 Theclaim also ignores the strong incentives of high quality issuers to distinguish

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See below text accompanying n 98.R A Posner, above n 1 at 527.Corporate Law Economic Reform Program, Fundraising: Proposals for Reform Paper No 2(1997) (hereafter "Fundraising Paper"); Corporate Law Economic Reform Bill 1998 (Cth), ch6D.M J Whincop, "Due Diligence in SME Fundraising: Reform Choices, Economics andEmpiricism" (1996) 19 UNSWLJ 433.Corporations Law, s 1022; cf Companies Code 1981 (Cth), s 98; Companies Regulations reg43, SchN.Corporations Law, ss 66, 1018.Corporations Law, ss 1005, 1006.Corporations Law, ss 1007-1012.Fundraising Paper, above n 51 at 9.G Stigler, "The Public Regulation of the Securities Markets" (1964) 37 JBus 117; G Benston,"The Value of the SEC's Accounting Disclosure Requirements" (1969) 44 Acc Rev 515; GJarrell, "The Economic Effects of Federal Regulation of the Market for New Security Issues"(1981) 24 J L & Eco 613; C Simon, "The Effect of the Securities Act on Investor Informationand the Performance of New Issues" (1989) 79 Am Eeo Rev 295. In Australia, see P Brown,S L Taylor and T S Walter, "The Impact of Statutory Sanctions on the Level andInformation Content of Voluntary Corporate Disclosure" (1998) unpublished paper.


themselves and their disclosure from low quality issuers. The professionals (auditors,underwriters, etc) associated with a corporation and its share are a major signal.59Firms with substantial debt signal the higher quality of their assets (because they canservice high fixed interest commitments), while bonding management to paying out"free cash flow", a source of agency costs.60 Consider also the effect of contractingaround legal rules. CLERP proposes a major shortening of the list of defendants liablefor a defective statement in the prospectus.61 I have argued that the optimal regimewould not immunise from liability those parties rroposed to be deleted from the list,but make their liability an excludable default.6 Market participants could use theexclusion of liability as a signal about the quality of the issue and disclosure.

On the other hand, if CLERP genuinely seeks to decrease search costs, itsendorsement of a general disclosure standard over schedular disclosure is perverse.63Since mandatory disclosure has minor effects on returns, the strongest case formandatory disclosure often lies in the economies arising from comparing standardiseddisclosures.64 This advantage points very strongly to a checklist, not a generalstandard.65 General tests probably create higher compliance costs. An uncertainsubstantive standard may encourage excessive precautions being taken to verifycompliance with the disclosure obligation.66 Due diligence is probably likely to belonger and more costly,67 a result that redistributes rents to corporate lawyers andother securities professionals. Interest group activity also explains CLERP's proposalsto exclude these professionals, excepting underwriters, from the official list ofdefendants.68 It may also explain the $5,000,000 cap on funds raised using the new

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See, eg, S A Ross, "The Determinants of Financial Structure; The Incentive SignallingApproach" (1977) 8 Bell J Eeo 23; F H Easterbrook and D R Fischel, above n 20 at 280-282;D Anderson, J R Francis and D J Stokes, "Auditing, Directorships and the Demand forMonitoring" (1993) 12 JAeetg & Pub Pol 353; JB de Long, "Did JP Morgan's NIen Add Value?An Economist's Perspective on Financial Capitalism" in P Temin (ed), Inside the BusinessEnterprise: Historical Perspectives on the Use ofInformation (1991) at 205.M C Jensen, "Agency Costs of Free Cash Flow, Corporate Finance, and Takeovers" (1986) 76Am Eeo Rev 323.Corporate Law Economic Reform Bill, cIs 729-730.M J Whincop, "Promoters, Prospectuses, and Pragmatism: Updating Fiduciary Duties in aTime of Economic Reform" (1998) 24 Mon UL Rev 454; M J Whincop, "Token Economics?One View of the Fundraising Reforms" [1997] Butterworths Corps L Bull § 348; M J Whincop,above n 19.P G Mahoney, "Mandatory Disclosure as a Solution to Agency Problems" (1995) 62 U Chi LRev 1047; M J Whincop, "Promoters, Prospectuses, and Pragmatism: Updating FiduciaryDuties in a Time of Economic Reform" (1998) 24 Mon UL Rev forthcoming.F H Easterbrook and D R Fischel, above n 20 at 303-304.The ASIC is currently considering whether or not to permit the managed funds industry touse short-form prospectuses, with specified disclosure obligations: Australian SecuritiesCommission, Simpler Managed Investment Prospectuses: ASC Policy Proposal (1998). Thepressure for these prospectuses is consistent with my argument that standardisation maybe valued by markets, because it decreases search and compliance costs. However, the"relief" proposes that a long form prospectus still be prepared.R Craswell and J E Calfee, "Deterrence and Uncertain Legal Standards" (1986) 2 ] L Eeo &Org 279.M J Whincop, above n 19 and n 52; L Kaplow, "Rules Versus Standards: An EconomicAnalysis" (1992) 42 Duke L] 557.See above text accompanying nn 61-62.


"offer information statement" procedure.69 This procedure does not require duediligence, so a dollar value limits the "leakage" of rents lost to professional interestgroups when parties can lawfully evade a mandatory due diligence obligation.

50 the fundraising reform proposals do very little to increase choice between legalrules. They also do very little to facilitate fundraising by 5MEs, even though this issupposed to be an object of the reforms. The CLERP documents read as if the mainreason 5MEs do not obtain finance is the cost of complying with fundraisingprocedures.70 The evidence suggests other reasons: in particular, many 5MEs lackgovernance structures that constrain opportunism by the active entrepreneurmanager.71 Corporate governance may be more important to the (typicallyundiversified) 5ME investor who lacks a ready exit opportunity than the investor in aportfolio interest in exchange traded shares. There are limits on what a governmentcan do to improve governance processes. However, it can decrease the costs ofentrepreneurs and investors contracting in respect of these matters. It could provide inrespect of unlisted corporations soliciting external finance a series of default rules orrule choices appropriate to the investor-entrepreneur relation in 5MEs. Examplesmight include expanded rights to convene company meetings, cumulative votingentitlements for the appointment of directors,72 expanded rights of access to corporateinformation and documents, expanded appraisal rights, and safe harbours protectingshareholders wishing to exercise governance rights from being caught as shadowdirectors.73 Venture capital financing agreements might be used by analogy. Providingfor default rules that expand these rights would put investors and managers into aposition where governance problems could be addressed by contract, rather than bylitigation under the generic members I rights provisions.74 It may be that state-basedcorporate law would be more responsive to these problems than federal law is.75

Directors' DutiesCLERP's paper on directors' duties tends towards understatement when it states thatthere has been "increasing debate in Australia about the standard of corporate

697071

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Corporate Law Economic Reform Bill, cIs 709, 715, 728, 729, 732 and 733.Fundraising Paper, above n 51 at 7, 10 and 53.See, eg, National Investment Council and Marsden Jacobs Associates, Financing Growth:Policy Options to Improve the Flow of Capital to Australia's Small and Medium Enterprises (1995).CLERP acknowledges the point (Fundraising Paper, above n 51 at 52), but it has no effect onany of its recommendations.A cumulative voting entitlement is a right to cast all of the votes one is entitled to,multiplied by the number of directors to be elected, for a single director: eg, GeneralCorporation Law, 8 Del Code § 214 (1996). It may permit a minority to elect a director. CfF H Easterbrook and D R Fischel, above n 20 at 63-64 and 73.M J Whincop, above n 52 at 460-462; B Cornelius and J Cooper, "Risk Negotiation inVenture Capital" in J B Ryan and B Gibson (eds), The People Factor in Small Enterprise(proceedings of the 1994 Joint Small Enterprise Association of Australia and New Zealandand Institute of Industrial Economics Small Enterprise Conference). This is an ongoingsubject of my research.Corporations Law, ss 260, 461(e), (f), (g), (k).I Ayres, "Judging Close Corporations in the Age of Statutes" (1992) 70 Wash ULQ 365; L ERibstein, "Statutory Forms for Closely Held Firms: Theories and Evidence from LLCs"(1995) 73 Wash ULQ 369; R Romano, State Competition for Close Corporation Charters: ACommentary" (1992) 70 Wash ULQ 409.

88 Federal Law RevieuJ Volume 27

governance ll•76 A long debate indeed, but, in my opinion, a rather unproductive one.

The proper relation of legal duties to wealth-maximising governance has too oftenbeen obscured by analysis of accountability in deontological, or often hortatory, terms.The only aspect of the law that seems to be identifiably new is that directors have acontinuing duty to be informed about the company which cannot be delegated to otherdirectors or other staff.77

CLERP recommends a business judgment rule as a safe harbour for negligenceactions provided the director acts in good faith, on the basis of rational beliefs, isadequately informed, and has no conflicting interest.78 I wonder what the defenceactually adds. Three years ago, my analysis of the recent authorities described the lawin almost exactly these terms.79 Nor can I think of one case that would be decideddifferently by the presence of the rule in the proposed format.

The business judgment defence highlights a premise of these reforms: that thecourtroom is the appropriate place for directors to be exculpated from liability.80CLERP should have considered whether relieving directors from the burdens of officemight better be achieved by contractual releases or limitation of liability. To be fair,CLERP did propose clarification and minor extensions that would bring the law intoline with officer indemnification rules of other jurisdictions, including Delaware's.However, Delaware, like other American States, permits the corporation's constitutingdocument to eliminate or limit the liability of directors for monetary damages fornegligence.81 Corporations can adopt this term when they incorporate, or propose it byway of amendment.

These provisions were enacted at a turbulent time in the American directors' andofficers' insurance market.82 Faced with the unavailability of insurance, manycorporations changed the allocation of risk by means of contractual releases. Therationale is that shareholders, being capable of diversification, may bear the risk atlower cost than directors.83 Given that the cost of directors' and officers' liability

76

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80

81

82

83

Corporate Law Economic Reform Program, Directors' Duties and Corporate Governance:Proposals for Reform Paper No 3 (1997) at 21 (hereafter "Directors' Duties Paper").See, in particular, AWA v Daniels (1995) 16 ACSR 607.Directors' Duties Paper, above n 76 at 28; Corporate Law Economic Reform Bill, cI2(2).M J Whincop, "A Theoretical and Policy Critique of the Modem Reformulation of Directors'Duties of Care" (1996) 6 Aust JCorp L 72; PM Redmond, "Safe Harbours or Sleepy Hollows:Does Australia Need a Statutory Business Judgment Rule" in I M Ramsay, CorporateGovernance and the Duties ofCompany Directors (1997) at 185.K E Scott, "Corporation Law and the American Law Institute Corporate GovernanceProject" (1983) 35 Stan L Rev 927.General Corporation Law, 8 Del Code § 102(b)(7) (1996); American Law Institute, Principlesof Corporate Governance (1992) § 7.19. See generally J C Coffee, "No Exit?: Opting Out, theContractual Theory of the Corporation, and the Special Case of Remedies" (1988) 53Brooklyn L Rev 919.See, eg, R Romano, "Corporate Governance in the Aftermath of the Insurance Crisis" (1990)39 Emory LJ 1155; R Romano, "What Went Wrong With Directors' and Officers' LiabilityInsurance?" (1989) 14 Del/Corp L 1; C A Schipani, "Defining the Corporate Director's Dutyof Care Standard in the United States and Australia" (1994) 4 Aust J Corp L 152; G L Priest,"The Current Insurance Crisis and Modem Tort Law" (1987) 96 Yale L/1521.The merits of these provisions should not be overstated. In respect of duty of care mattersthey may create a moral hazard problem, inducing managers to shirk their responsibilities:J C Coffee, above n 81; American Law Institute, Principles of Corporate Governance (1992) §


insurance in Australia is out of the reach of many directors,84 permitting corporationsto adopt these terms seems arguable. The relatively clear allocations of property rightsby these contractual provisions may be preferable to the more ambiguous content andlitigation costs of the business judgment safe harbour. Lawyers, however, will prefercourt room to contractual exculpations because such laws increase the amount oflitigation and expected fee revenue.85

I expect lawyers also to favour the introduction of CLERP's proposed statutoryderivative action.86 I have criticised these rules in an earlier article, pre-dating CLERP,and will not restate the same criticisms again.87 For the purposes of this article, twopoints should be noted. First, the procedural rules exude uncertainty. From the timethe litigation begins, until it is tried, settled, or discontinued, very few things can bedone without the court's sanction. The court has a vast review jurisdiction-it mustgrant the plaintiff leave to bring the suit, it can review and reject ratification of theimpugned conduct by the general meeting as improper or uninformed, and it reviewsproposed settlements. The demand for litigation is open-ended. The US experience ofthe derivative action counsels us to recognise the severe agency problems affecting theplaintiff's lawyer.88 Yet the legislation does not recognise these problems, or attempt tocontrol them. The interest group provenance of the legislation is very strong.

The overriding perception of these reforms is that issues are being taken away fromthe market and placed in the hands of the courts. We have seen that lawyers willfavour these reforms. In addition, the reliance on courts may be an effective politicalstrategy for law-makers. Parliaments are aware that they are unlikely to provide auniversally suitable rule for directors' duties of care. Allowing parties to contract forreleases of liability may increase the amount of political backlash should matters goawry as they did in the late 1980s.89 The politically astute strategy is to passresponsibility to the courts. Law-makers and lawyers are better off; the officers ofcorporations that can afford directors and officers' insurance are no worse off. Thecosts are borne by a diffuse population-by the general taxpaying public since greatercourt resources must be consumed, and by shareholders and officers that cannot affordinsurance since optimal risk sharing is made more difficult.

84

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7.19 (proposing a mandatory limit on minimum liability). The other problem, of course, isthat these provisions are often adopted in midstream-as noted previously, the case forthese provisions is weaker.See, eg, S Hoyle, "Directors Rocked by Insurance Increases", Australian Financial Review, 18August 1993 at 1. Cf J Heath, "Premium Declines Predicted from Increased Capacity", TheInsurance Broker, October 1996 at 22.See R A Epstein, "The Political Economy of Product Liability Reform" (1988) 78 Am Eco Rev311 at 313.Directors' Duties Paper, above n 76 at 29-40.M J Whincop and M E Keyes, "Corporation, Contract, Community: An Analysis ofGovernance in the Privatisation of Public Enterprise and the Publicisation of PrivateCorporate Law" (1997) 25 F L Rev 51 at 90-93; R Romano, "The Shareholder Suit: LitigationWithout Foundation?" (1991) 7 JL Eco & Org 55.J C Coffee, above n 81; J C Coffee Jr, "Rescuing the Private Attorney General: Why theModel of the Lawyer as Bounty Hunter Is Not Working" (1983) 42 Maryland L Rev 215; J CCoffee Jr and D Schwartz, "The Survival of the Derivative Suit: An Evaluation and aProposal for Legislative Reform" (1981) 81 Col L Rev 261.M J Roe, above n 37.


Takeovers

As with the other reforms, the proposed takeovers reforms are strikingly truncated.90

Some issues that one would have thought to be of burning economic importancesimply do not appear. There is virtually no discussion of defensive tactics in thecontext of takeovers, apart from a reference in the context of litigation and disputeresolution.91 We are thus left with general standards of fiduciary review (such asimproper purposes92), and the so-called "Eggleston" principles.93 The case law has ahealthy dose of rhetoric about the impermissibility of director self interest, but itfrequently permits acts of "managerial" self-entrenchment.94 Self-entrenchment is, andwill remain, a feature of Australia's takeover laws.

First, CLERP proposes no changes to the regulation of partial takeovers. In 1986,Australia's corporate legislation eliminated "pro-rata" takeover bids.95 The legislationallows companies to amend their articles by special resolution to the effect that apartial takeover to be approved by the general meeting (exclusive of tI,e offeror) for itto go ahead.96 This provision perversely assumes that shareholders are competent toopt out of partial takeovers, but are otherwise incapable of regulating bids for theirshares.97 These provisions will normally proceed by amendment of the articles. Somelaw and economics scholars have reservations about amendments, becauseshareholders usually lack incentives to become informed.98 The law seems to serve no

90

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9495

96

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Corporate Law Economic Reform Program, Takeovers: Proposals for Reform Paper No 4 (1997)(hereafter "Takeovers Paper").Ibid at 34-35.See, eg, Mills v Mills (1938) 60 CLR 150; Harlowe's Nominees Ply Ltd v Woodside (LakesEntrance) Oil Co NL (1968) 121 CLR 483; Howard Smith Ltd v Ampol Petroleum Ltd [1974] 1NSWLR 68 (PC).Corporations Law, s 731; Corporate Law Economic Reform Bill, cI602(b), (c). See generallyG Williams, "The Corporations and Securities Panel-What Future" (1994) 12 C & S LJ 165.M JWhincop, above n 23 at 220-221.That is, those in which the bidder announces an intention to acquire a certain proportion ofshares, at a certain price, and pro-rates acceptances if these exceed that proportion. Thesewere condemned as coercive: Companies & Securities Law Review Committee, Report to theMinisterial Council on Partial Takeover Bids (1985). This is a doubtful assessment. Few bidsare genuinely coercive. Two-tier bids (ie the first 50% of shareholders accepting will receive$10, the rest get $5) may be coercive if the "blended" price ($7.50) is below the currentmarket price (eg, if the market price is $8.00). Everyone will race in to accept an offer that isnot in their best interests to accept. This is a classic "prisoner's dilemma", where theindividually rational strategy is inconsistent with the collectively rational one. However,the problem is not coercion, as such, but that the individually rational response does notmeet the first-order efficiency criterion that the buyer pays more than the current marketprice. See F H Easterbrook and D R Fischel, above n 20 at 179-180.Corporations Law, s 671-672. The amendment has effect for three years. See generallyI M Ramsay, "Balancing Law and Economics: The Case of Partial Takeovers" [1992] JBL 369;S Armstrong, H P Lange and L E Woo, "Can Antitakeover Activity Really Create Wealth"(1994) 11 Asia Pac JofManagement 327.I have dubbed this "monkey wrench contractarianism", where contractual variation of alegal rule (eg, one permitting partial takeovers) can only occur in one direction:M JWhincop, above n 16 at 260.F H Easterbrook and D R Fischel, above n 20 at 32-34; L A Bebchuk, "Limiting ContractualFreedom in Corporate Law: The Desirable Constraints on Charter Amendments" (1989) 102Harv L Rev 1820; JN Gordon, "The Mandatory Structure of Corporate Law" (1989) 89 Col L


purpose other than managerial entrenchment, since it raises the costs and the delays ofpartial takeovers.

Secondly, we continue to have a low 20% statutory threshold, above whichacquirers cannot go without making a formal bid. It is true that the procedure forcrossing the limit is to be liberalised.99 However, the threshold is very low by worldstandards.100 This increases the costs of would-be bidders.

Finally, and most significantly, CLERP defends the equal opportunity principlethat gains from control transactions be shared equally between shareholders. CLERPrelies on an investor confidence argument,101 claiming that risk averse investors prefergain sharing rules.102 Even though economic analysis clearly shows that diversifiedinvestors will prefer gain maximising rules to gain sharing rules, we are told thatdiversification is not an adequate answer, because it "can be difficult to achievewithout incurring substantial costs, especially if the investor does not have liquidinvestments."103

These arguments are flawed. CLERP's discussion focuses on investments in stockmarkets, where diversification is usually simple and almost costless. In other cases, it isinconceivable why a "risk averse" investor would have made a substantial,undiversifiable investments in illiquid securities.104 There are only two types ofinvestor in listed securities with difficulty diversifying risks. One of these is owners ofcontrol blocs-it is unimaginable that that sort of investor prefers gain sharing! Thesecond type is, of course, managers, whose interests CLERP is covertly protecting,since the equal opportunity principle increases the expected control premium biddersmust pay. Evidence indicates that the negative effect of the decreased probability ofcontrol passing (because takeovers are more costly) dominates the positive effect of theshareholder's increased return. lOS Because the equal opportunity principle is notsubject to contract, shareholders pay a price for managers' more secure tenure.

One can agree that investor confidence will be undermined if there was anyevidence that control transactions impoverish minority shareholders.106 But thisconcern does not dictate gain sharing. It instead demands rules prohibiting actions thatcause impoverishment (such as looting). Again, the equal opportunity principle may

99100

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Rev 1549 at 1575-1576. Cf R Romano, "Answering the Wrong Question: The Tenuous Casefor Mandatory Corporate Laws" (1989) 89 Col L Rev 1599; JR Macey, "Corporate Law andCorporate Governance: A Contractual Perspective" (1993) 18 JCorp L185 at 190-193.Corporate Law Economic Reform Bill, cIs 611, 614.Panel on Takeovers and Mergers, The City Code on Takeovers and Mergers (1993) rules 5, 9;Proposal for a Draft Thirteenth Directive on Company Law Concerning Takeover and OtherGeneral Bids [1989] OJ C64 14/3 (original proposal), [1990] OJ C240 26/9 (amendedproposal).Takeovers Paper, above n 90 at 14-16.Ibid at 14.Ibid at 15. Cf H DeAngelo, "Competition and Unanimity" (1981) 71 Am Eco Rev 18. CLERPdoes not tell us why a handful of shareholders who find it hard to diversify should befavoured above the majority who would prefer a gain-maximising rule.Note that the benefit of the takeover rules will not extend to the majority of unlistedproprietary companies, as the rules do not apply where there are fewer than 50shareholders: Corporate Law Economic Reform Bill, cl602; cf Corporations Law, s 619.Ibid at 204-205.F H Easterbrook and D R Fischel, above n 20 at 129-131.


simply be a better political option for a monopolist-managers are the winners,politicians can preserve a suitably egalitarian image, and shareholders' losses arespread too diffusely for them to bother taking collective action.

ConclusionsIf my analysis is accurate,107 the Commonwealth, as a monopolist, has little to gainfrom producing efficient corporate laws. Small macro-economic and revenue effectsare likely to be dominated by political considerations and interest group effects. Wehave seen evidence of both conservatism and interest group favouritism in CLERP'sproposals. Given these failures, we should conclude that the current allocation oflegislative and administrative power over corporations, and not just the legal rulesthemselves, are in need of reform. The next part explores metareform options.

OPTIONS FOR METAREFORM

IntroductionThe last part argued that the invocation of efficiency by CLERP has been primarilyrhetorical. Governments in monopolistic positions have weak incentives to deliverefficient corporate laws. There are a significant number of areas where the interests ofshareholders are inconsistent with the interests of regulators, or the interests of groupsactive in the political process. We need to explore whether these results would holdunder alternative allocations of legislative and administrative power. Below, I explorefour alternatives. The first involves structural changes to the status quo. The second isa hybrid between unitary laws and state competition, in which the Commonwealthsets basic rules, but the States are empowered to create alternative options whichparties incorporating a company could choose between. Thirdly, the stock exchangecould act as a corporate regulator. Finally, state competition could be revived.

A restructured monopolyI have spent several thousand words dismissing the federal corporate monopoly asinefficient. Unfortunately, realpolitik suggests it is unlikely to be easily dismantled. Inthis section, I consider whether, given the Commonwealth's monopoly, the quality ofits laws can be improved by structural means.

First, the Commonwealth should consider how it should deal with changes itmakes to legal rules. When significant amendments to the Corporations Law are made,the allocation of risk and the distribution of wealth between shareholders andmanagers changes. Some of these changes may be beneficial to shareholders, but others(a business judgment rule for example) may be beneficial to managers. At least inrespect of the latter changes, shareholders of existing companies should be required to

107 I would reject the notion that my criticisms are simply one idiosyncratic reading of theeconomic literature. I am not aware of any lawyer-economist who favours any of theprinciples CLERP favours, except for the equal opportunity principle. Economic defencesof that rule, however, depend on it facilitating control auctions: LA Bebchuk, "TowardUndistorted Choice and Equal Treatment in Corporate Takeovers" (1985) 98 Harv L Rev1695 and "The Sole Owner Standard for Takeover Policy" (1988) 17 JLeg Stud 197. CLERP,however, has advocated a rule permitting off-market transactions in order to decrease thenumber of auctions: Corporate Law Economic Reform Bill, cIs 611 item 5,614.


opt in, even if all new companies are bound by the mandatory rule.10B It is verydifficult for shareholders to protect themselves against such rule changes. It is true thatin large companies amendments may be passed even if they are wealth decreasinggiven the high information and coordination costs that shareholders face.10'9Nonetheless, this will not be equally severe for every company, especially those withlarger bloc shareholders.110 If companies reject the provision, it should warnlegislatures that their judgments are not infallible, and encourage conversion ofmandatory rules into defaults.

Secondly, the Commonwealth might be stripped of its dominance of the MinisterialCouncil for Corporations.lll It would have one vote (the same as the States), not four,and the current matters within its exclusive domain should be opened to Stateparticipation. Amendments by the Commonwealth would therefore have to be betterjustified in order to win the approval of the States. If States perceive problems with theCorporations Law, perhaps because they are closer to local problems than theCommonwealth is, they have a greater opportunity to correct those problems whenthey only have to win the support of three other States. Although a stronger role forthe States is desirable, this proposal still leaves the fundamental problem of amonopoly. These measures might improve the law, but ultimately the States, actingwith the Commonwealth in cartel, still have little incentive to offer the right blend ofcontractual defaults and mandatory rules, and to get the content of those rules right.

Simulated federalism: Commonwealth defaults with State optionsBetween a Commonwealth monopoly and State competition lies a halfway house. TheCommonwealth could pass the Corporations Law as normal, but States could be givenpower to add to each of the Commonwealth's rules an alternative rule whichincorporating companies may adopt, and that other companies may choose to opt into.Companies that do not choose an option remain with the Commonwealth defaultrules. For example, the current s 241 reads:112

241. (1) A company or a related body corporate must not:

(a) indemnify a person who is or has been an officer or auditor of the company againsta liability incurred by the person as such an officer or auditor; or

(b) exempt such a person from such a liability.

(1A) A memorandum, articles, or any other instrument, or an agreement or arrangement,is void in so far as it provides for a body corporate to do something that subsection (1)prohibits.

South Australia might choose to add to that provision something like the following:241. (1B) Notwithstanding s 241(1) and (1A), a company may be incorporated with aconstitutional provision excusing the director from liability for damages associated witha failure to exercise due care. To be eligible for the benefit of this provision, the directormust have acted in good faith, without a disabling conflict of interest. The article may

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111112

Cf R Romano, "The State Competition Debate in Corporate Law" (1987) 8 Cardozo L Rev 709at 753-754, B S Black, above n 17 at 582. See below text accompanying n 250.See above text accompanying n 98.B S Black, "Shareholder Passivity Reexamined" (1990) 89 Mich L Rev 520 (the incentive forshareholder activism increases exponentially with size of shareholding).See above n 6.To become s 199A.


provide further conditions with which the director must comply in order to receive thebenefit of this release. In the case of an existing company, the constitution may beamended to include such a provision if the shareholders in general meeting pass a specialresolution accordingly.

Victoria might add a provision which limits the liability of the director to damagesequal to some multiple of the director's annual remuneration.113 The law remains anational one, so companies could adopt any of the options, irrespective of the State inwhich they incorporate. Unlike the proposal in the last section for changing votingpower in the Ministerial Council, the States would have unilateral power to addoptions, rather than having to secure a majority in the Council to change the backgroundrule.

Currently, the Commonwealth relies on the territories power to pass law in theACT, which the States apply under their Corporations [State] Acts 1990.114

Amendments follow consultations with the Ministerial Council. The proposals Iadvance here would involve different procedures. A State parliament would enact theprovision as an amendment to the enacted Corporations Law.11S There are variousways of making that amendment available to the other States. The other States and theCommonwealth (exercising the territories power) could amend their Corporations Actsto apply the amending legislation of other States as part of their Corporations Laws.Alternatively, the Commonwealth could simply amend the Corporations Law, and theenactment would apply by force of the current arrangements.

One's first reaction to simulated federalism is to recall the adage that a committeeasked to design a horse will produce a camel. Far from shrinking, the CorporationsLaw would increase in size. On the other hand, designing rules in menu format hassound economic rationales. Charles Goetz and Bob Scott have pointed out that much ofthe domain of contractual freedom that default rules appear to preserve is neverexploited.116 This is because of the uncertainty associated with opting out. These ideasare formalised by Michael Klausner in his seminal work on learning and networkexternalities in corporate contracts.117 There are some products where the choice ofproduct A over B confers a benefit on the existing users of A and a cost on the users ofB. Klausner argues that corporate contracts are characterised by these externalities.Parties' preferences for particular corporate governance terms depend on the extent towhich other parties use those terms, both in the past (learning externalities) and in thefuture (network externalities). For example, rarer terms may require that the offeror ofsecurities spend more to explain the merit of an opt-out. They are also less clearbecause of the lower probability of future clarification by adjudication.

113114115

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117

See above text accompanying nn 81-84.See above text accompanying nn 5-6.I would expect there to be some consultation with the Council regarding form, eventhough the Council would not have a veto.C J Goetz and R E Scott, "The Limits of Expanded Choice: An Analysis of the InteractionsBetween Express and Implied Contract Terms" (1985) 73 Cal L Rev 261.M Klausner, "Corporations, Corporate Law and Networks of Contracts" (1995) 81 Va L Rev757; M Kahan and M Klausner, "Standardization and Innovation in Corporate Contracting(Or 'The Economics of Boilerplate')" (1997) 83 Va L Rev 713. Cf R Korobkin, "The Status QuoBias and Contract Default Rules" (1998) 83 Cornell L Rev 608.


Klausner argues that corporate law can deal with these problems by serving acoordinating function. It can do this by offering menus, rather than single rules.118

Therefore, the expansion of the corporate statute's structure by including both astandard rule and further options may actually lead to better corporate contracting.

Simulated federalism also is appealing if the form of the default rule is important.Recent research has suggested that the form of a default can be important, even incases where the costs of explicit contracting are low.119 This is particularly so wheredefaults have information-forcing properties.120 I have argued elsewhere that thesedefaults have a substantial place in corporate law.121 If so, simulated federalism maybest achieve these goals. For instance, the related party provisions in chapter 2E couldbe reduced to default status, so compelling promoters to state explicitly the proceduresthey propose to adopt for the ratification of conflictual provisions. States could supplyoptions that provide explicit mechanisms for the approval of a range of transactions.This would compel promoters and senior executives to release information, byadopting,State options, about the major self-dealing transactions that might occur, andthe means of dealing with them.122

The menu approach also increases "untied" choice. A problem with statecompetition, which is intensified by contract externalities, is that one has to take"bundles" of rules.123 The menu system creates rule defaults, whereas state competitionmay only create choice of law defaults.124 A choice of another law still leaves one withthe mandatory rules of the chosen system. Rule defaults permit choices within thechosen law. They are therefore more flexible, and likely to lead to better contracting.Governments can also see more clearly what rules are preferred, potentially permittingbetter law making.

Does simulated federalism have disadvantages? One economic disadvantage is thatit may increase search costs, compared to alternative systems.125 If importantprovisions are the subject of menus, the investor who wants to know what choice thecompany has made must peruse the articles. Search costs under state competition arelower, because corporations naturally gravitate to States whose rules are preferred,rather than to those which it intends to contract out of. Ar~ably, the distributiveeffects of term choices should be reflected in security prices.1 6 Obviously, however,not all shares are traded in efficient capital markets. Also, investors who want to know,for portfolio purposes, the risk associated with particular securities cannot simply rely

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123

124

125126

M Klausner, ibid at 837-841.I Ayres and R Gertner, above n 23; I Ayres and R Gertner, above n 26.See above text accompanying nn 23-26.M J Whincop, above n 23; I Ayres, above n 26.J C Coffee Jr, "The Mandatory/Enabling Balance in Corporate Law: An Essay on theJudicial Role" (1989) 89 Col L Rev 1618 at 1668-1669; M JWhincop, above n 19.R J Daniels, "Should Provinces Compete? The Case for a Competitive Corporate LawMarket" (1991) 36 McGill L] 130 at 146-147; M J Whincop and ME Keyes, "Putting the'Private' Back into Private International Law: Default Rules and the Proper Law of theContract" (1998) 21 MULR 515 at 535.M J Whincop and M E Keyes, "Statutes' Domains in Private International Law: AnEconomic Theory of the Limits of Mandatory Rules" (1998) 20 Syd L Rev 435 at 437.R Romano, above n 35.See above text accompanying n 30.


on extant prices, but must investigate the substance of the contract.127 Search costs arethus higher under a menu option system.

The main weakness is that simulated federalism merely provides the opportunity toexpand choices. It does nothing about the incentive to expand choices. Incentives todevelop efficient laws are hard to find in Australia, unlike the United States wherefranchise taxes create large stakes. The allocation of grant money to States could bechanged to reflect the adoption of States' options. Thus, if Queensland and New SouthWales developed separate options to the equal opportunity principle, a "pot" of moneywould be allocated in shares referable to the number of constitutions opting for theQueensland option, the New South Wales option, and the Commonwealth default. Theother States would share in pre-determined shares the "Commonwealth's" share.Therefore, a State is not necessarily better off recommending an option, if it proves tobe unsuccessful. The difficulty is working out how to make incentive pools largeenough to encourage competition, without overvaluing the term in a way that wouldlead to excessive investment of resources by the States. Given the number of rules inthe Law, the total bonus pool may be stretched too far. As Oliver Williamson hasobserved, non-market organisation inevitably degrades strong incentives.128

For example, if a term attracts strong preferences, other States may try to replicatethe term themselves to capture part of the bonus. Private costs would be outlaidwithout social gains. The Commonwealth could retain the power to deal with asituation where two or three States adopt a substantially identical provision. It couldreject its own default, and install the successful option as the default, relegating the oldrule to the status of an option. A bonus might be paid to the first-moving State. TheMinisterial Council also remains a forum for agreeing to change the default.Nonetheless, embodying these sorts of provisions in rules would be difficult.

This model of simulated federalism may lead to tensions between theCommonwealth and State governments. States would pre-commit under the nationalscheme to accepting whatever options another State might add. It is this dynamicwhich makes the scheme unlikely to materialise. On the other hand, if it did, I suspectit would eventually hasten the demise of national scheme laws. The difficulties ofagreeing, over time, to a scheme that rewards winners may prove intractable. Statesthat did well in the competitive process would find it difficult to go back to being toldby the Commonwealth what to do. So it may be that the instability of simulatedfederalism is virtuous, because it would lead to an efficient system of state competition.Whether state competition would be efficient is examined below.

The ASX empoweredState competition and exchange regulation are two means by which corporate law canachieve a greater market orientation. The rationale for exchange regulation ofcorporate law is that the exchange's ability to attract listings and transactions dependson its ability to respond to the needs and concerns of investors. Stock exchanges havefor centuries served-and continue to serve-a regulatory function. They regulate theirbroker-members and the companies that list on them. It would be a comparativelysmall step to permit the Australian Stock Exchange (the ASX) to serve a more extensive

127 J C Coffee, Jr, "Market Failure and the Economic Case for a Mandatory Disclosure System"(1984) 70 Va L Rev 717. I assume that rule choices are relevant to security-specific risk.

128 a E Williamson, The Mechanisms ofGovernance (1996) at 137-147.


regulatory function.129 It could provide its own standard form corporate contract, byestablishing a full range of rules to apply to the governance relation betweenshareholders and managers, and also to conventional issues of securities regulation(insider trading, disclosure, and the like). Legally, the ASX would not possess thepower to incorporate companies, which would seem, under Australian constitutionallaw, to be a prerogative of the States.130 The Corporations Law would need to beamended in order to permit the ASX to be responsible adnlinistratively for theincorporation process.

It has been suggested, usually by reference to anecdotal evidence, that exchangeshave insufficient incentives to limit fraud and manipulation.131 Although an exchangerecognises the importance of dealing with investor concerns about integrity andtransparency, it has a competing incentive to maximise the wealth of its members byincreasing trading volume.132 If fraud and manipulation will not otherwise bedetected, its incentives to discover it are limited. How convincing is the case againstself-regulation?

In evaluating the exchange as regulator, we lack local evidence of a time at whichthe exchanges were genuinely self-regulating in matters of corporate and securitieslaw. Our first exchanges appeared in the last three decades of the nineteenthcentury,133 by which time English and Australian law were insistin~ on substantialdisclosure by companies and the promoter at the time of fundraising.1 4 However, theAmerican experience is instructive. Because of peculiar jurisdictional doctrines thenextant, State securities laws in the United States were easy to evade. However, theexchanges, especially the New York Stock Exchange, required substantial disclosure bylisting companies. Thus, when the Securities Act of 1933 introduced fundraisingdisclosure requirements, it was possible to examine the impact they had on securitiesreturns. The evidence indicated that there was no increase in returns,135 and that extradata mandated by the statute turned out to have no information content.136 Althoughsecurities returns were less risky, this should not be regarded as a good thing-itimplies that riskier corporations found it harder to obtain capital. So the self-regulatingexchange was not demonstrably inferior to government regulation.

129

130131

132133

134

135136

P G Mahoney, "The Exchange as Regulator" (1997) 83 Va L Rev 1453. Cf G J Benston,"Regulation of Stock Trading: Private Exchanges Vs. Government Agencies" (1997) 83 Va LRev 1501 and M Kahan, "Some Problems with Stock Exchange-Based Securities Regulation"(1997) 83 Va L Rev 1509.Constitution, s 51(xx); The Incorporation case (1990) 169 CLR 482.Rae Committee, Australian Securities Markets and their Regulation; Report from the Senate SelectCommittee on Securities and Exchange; Volume l-Report (1974); T Sykes, Two Centuries ofPanic: A History of Corporate Collapses in Australia (1988). For a review of Americancommentary to similar effect, see P G Mahoney, above n 129 at 1464-1475.M Kahan, above n 129 at 1512.S Salsbury and K Sweeney, The Bull, the Bear and the Kangaroo: The History of the Sydney StockExchange (1988); G Adamson, A Century of Change: The First Hundred Years of the StockExchange ofMelbourne (1984).Companies Act 1867, 30 & 31 Vict c 131, s 38; Companies Act 1900 63 & 64 Vict c 48.Australian legislatures took substantial initiatives in compelling disclosure from publiccompanies: J Waugh, "Company Law and the Crash of the 1890s in Victoria" (1992) 15UNSWL] 356.G Stigler, above n 58; GA Jarrell, above n 58; C Simon, above n 58.G J Benston, above n 58.


As with ~overnments,one's confidence in the exchange as a regulator depends oncompetition. 37 Over time the number of exchanges has fallen substantially. In theUnited States in 1934, there were thirty four exchanges. Now there are seven.138 InAustralia, those figures are six, and one, respectively. The high mobility of capitallimits the ASX's ability to act as a monopolist-investors are not compelled to invest indomestic shares139 since international capital flows are much less restricted than theywere two decades ago. Nonetheless, international capital mobility is less relevant if weare interested in examining the ASX as a general corporate regulator in this country.The lack of domestic competition between exchanges increases the ability of the ASX toextract rents from its market position.

Moreover, even if there were a sufficient number of domestic competitorexchanges, exchange competition may still not be preferred to state competition.Marcel Kahan has pointed out that under American law, there is no need for ashareholder vote on deciding to relist on another exchange, unlike reincorporation inanother State.140 That would also seem true of Australian law. Listing seems to fallwithin the unilateral discretion of managers.141 If that is so, exchanges may pass ruleswhich are attractive to managers, who are not constrained by a shareholder vote whenrelisting. On the other hand, the comgany's constitution could require a shareholdervote for a change in exchange listing.1

Should the ASX be entitled to attract incorporations from non-listed corporations?In principle, there is no reason why not.143 Admittedly, the standard form corporatecontract the ASX would be most likely to draw up may be oriented towards tradedcorporations, which have different needs, but the formal cost of providing adifferentiated contract for small corporations would probably be comparatively low.Provided incorporation and other fees cover the marginal costs associated withregulation, the incentive to compete is sustainable.144 On the other hand, the ability ofthe ASX to sanction misconduct in unlisted corporations is much more problematic.The ASX's relation to the corporation is as a contracting party, not as a sovereign. TheASX's most potent threat is to delist a corporation, but it lacks any parallel in theunlisted context. Thus, we can identify one limitation on the A5X-an attenuatedability to sanction misconduct.145 If managers in closely held corporations are lesslikely to be "repeat players" than those in public ones, who depend on continuedmanagerial employment, markets are less likely to be a sufficient control.146 Thus,penal sanctions may be more important. This is a powerful argument against the ASX

137138139

140141142

143144

145146

P G Mahoney, above n 129 at 1477-1478.Ibid at 1477.They nonetheless tend to do so: K R French and JM Poterba, "Investor Diversification andInternational Equity Markets" (1991) 81 Am Eeo Rev 222.M Kahan, above n 129 at 1511-1512.Corporations Law, s 226A(2).Alternatively, the exchange choice could be locked up in the constitution: CorporationsLaw, s 136(3).I Ayres, above n 75.On the other hand, as Romano has observed, the exchange effectively extemalises the costsof dispute resolution since it uses the state's court mechanism: above n 35.R Romano, above n 35; M Kahan, above n 129 at 1516-1517.B Klein and K Leffler, "The Role of Market Forces in Assuring Contractual Performance"(1981) 89/ Pol Eeo 615; L Telser, "A Theory of Self-Enforcing Agreements" (1980) 53/ Bus 27.


providing for the incorporation of closely held corporations, as well as an argument forrecognising the need, in the case of public corporations, for some continuedjurisdiction in matters of enforcement by the state.

So the case for exchange regulation in this country is chequered. The ASX faceslittle competition. Its incentives to police and sanction fraud are limited, although theyare by no means trivial. Nonetheless, the ASX is likely to have superior knowledge ofwhat investors value, and the evidence that securities regulation laws have made nomajor contributions to investor returns suggests that they should have an importantrole in securities regulation. I agree with Romano that this will be best realised in asystem of state competition.147 Some States may delegate responsibilities to the ASX.Other States may choose a more regulatory model. The retention of ultimateresponsibility by States provides greater enforcement resources, and perhaps greaterincentives to detect fraud, while preserving the right of market participants to makechoices between regimes that serve their interests best. I now turn to state competition.

State competition

The American experienceShould Australian States compete for incorporations? Those pro and con thatproposition usually have the American experience in mind. Although the UnitedStates' securities regulation laws are federal, corporate governance and shareholders'rights are the domain of the States. As most people know, the State of Delawareattracts over 40% of all incorporations, and a large majority of reincorporations. Theearly commentary on state competition tended towards extremes. Most people knowWilliam Cary's famous description of state competition as a "race for [sic] thebottom",148 which others scholars concurred in.149 In this account, Delaware won therace for attracting managers by diluting shareholder protections and expandingmanagerial discretion. The solution was national law, since the federal governmentwas thought to be less susceptible to the lure of "chartermongering".

Contractarian scholars, by contrast, glorified state competition as a race to thetop.ISO They saw corporate law as a supplement to contract. Contractin~ parties wouldbe irrational to choose a welfare decreasing strategy. As noted above,15 if share pricesreflect without bias the value of contract terms and default rules, promoters will seekto incorporate in the jurisdiction which maximises joint wealth. So far asreincorporation is concerned, Romano argues that a decision to reincorporate in onestate or another is costly.152 A corporation will only reincorporate in a jurisdiction if ithas desirable laws now, and commits to providing them in the future as well.

147148

149150

151152

R Romano, above n 35.W Cary, "Federalism and Corporate Law: Reflections Upon Delaware" (1974) 83 Yale LJ 663,666.For a list of references, see Macey and Miller, above n 41 at 469.R K Winter, Jr, "State Law, Shareholder Protection, and the Theory of the Corporation"(1977) 6 J Leg Stud 251; D R Fischel, "The 'Race to the Bottom' Revisited: Reflections onRecent Developments in Delaware's Corporation Law" (1982) 76 NWUL Rev 913.See above text accompanying nn 30.R Romano, above nn 20 and 108, "Law as a Product: Some Pieces of the IncorporationPuzzle" (1985) 1 JL Eco & Org 225 (hereafter Law as a Product) and "Corporate Law andCorporate Governance" (1996) 5 Ind & Corp Change 277 at 313-330.


Delaware offers a credible commitment, because of its dependence on revenue fromfranchise taxes, and its substantial investments in corporate law expertise. Thatcommitment is shared b~ an interest group that benefits from the State's dominance,namely its corporate bar. 53 The "clincher", for contractarians, was to examine the effecton share price when a company announces that it will reincorporate in Delaware. Adecreased share price would be evidence of a race to the bottom; if share prices wentup, the race to the top argument was convincing. The best of these studies (Romano's)indicated that share price changes were sometimes zero, and sometimes positive.154

This provided substantial support for the value of state competition.ISS

Unfortunately, glorification had to be put aside when most American States enactedvalue-decreasing legislation that made it difficult for hostile takeovers to succeed.1S6

Contractarians had to abandon the claim that state competition produces lex summus,in favour of a less ambitious claim that it is better than monopolistic production-theclaim to produce lex superior.157

Other theories have also been suggested about Delaware. According to Black,reincorporation costs are low for most companies. Therefore, given the substantialuniformity of American corporate law, Delaware's advantage can only be marginal.158

He attributes it to a competent judiciary, but dismisses judge-made law itself asessentially unimportant.159 Ian Ayres goes further in this direction.160 He argues thatthe primary problem that legislatures face is the difficulty of writing optimal defaultsfor long term relational contracts. Legislatures lack sufficient information in order todo that. However, courts are capable of resolving these important questions ofcorporate governance ex post. Therefore, Ayres, like Black, attaches importance to thejudiciary, but unlike Black, regards judge-made law as significant-rules that balancemerits on an ex post basis enable parties to get closer to state contingent contracts(contracts stipulating payoffs contingent on states of the world) than the partiesthemselves are capable of doing at the time of contracting.161

Klausner argues that just as network externalities affect contractual rules, they mayalso affect State corporations laws.162 Once sufficient corporations choose Delaware

153154

155

156

157158159160161

162

Cf J R Macey and G P Miller, above n 41.R Romano, Law as a Product, above n 152. See also J Netter and A Poulsen, "StateCorporation Laws and Shareholders: The Recent Experience" (1989) 18 Fin Management 29.Cf L A Bebchuk, "Federalism and the Corporation: The Desirable Limits on StateCompetition" (1992) 105 Harv L Rev 1435 at 1449-1450.However, increases in share price may be attributable not to Delaware law itself, but someother transaction (such as a merger) to which reincorporation was preparatory: Romano,Law as a Product, above n 152 at 268-271.R Romano, "The Political Economy of Takeover Statutes" (1987) 73 Va L Rev 111. As to theeffects of this legislation, see J M Karpoff and PH Malatesta, "The Wealth Effects of SecondGeneration State Takeover Legislation" (1989) 25 JFin Eco 291.R K Winter Jr, "The 'Race for the Top' Revisited" (1989) 89 Col L Rev 1526.B S Black, above n 17 at 586-588.Ibid at 589-590.I Ayres, above n 23.Ibid at 1403-06. Cf A Schwartz, "Relational Contracts in the Courts: An Analysis ofIncomplete Agreements and Judicial Strategies" (1992) 21 JLeg Stud 271.Klausner, above n 117 at 842.


law, the value of its charter will be increased, and become, to an extent, selfreinforcing:

The quality of a state's future case law depends on the number and diversity of lawsuitsbrought before its courts. These factors in tum depend on the number of firmsincorporated in a state. So long as a large number of firms remain incorporated inDelaware, that state's courts will probably produce a steady stream of case law thataddresses cutting-edge issues in a timely fashion. Without a base of corporatedomiciliaries comparable in size to Delaware's, no other state can offer the prospect ofsuch an extensive and timely body of case law.163

Thus, Delaware law is by no means the lex summus, but it does have value. However,its advantages will not easily be replicated by another State which has not alreadyattracted so many corporations.

State competition in Australia: then and nowThere is no reason why state competition could not work in Australia, givenappropriate incentives and structural changes. Cynics may point out that we have seenit all before. When States were responsible for passing company law, competitiveforces did not prevent the adoption of inefficient rules. For example, the Statesindependently adopted the anti-contractual predecessor of s 241, one after another,beginning with Queensland and ending with Tasmania, over almost thirty years.164Maybe that is true, but the argument must recognise fundamental changes during theensuing half century. We have not had significant state competition since the 1960swhen the States resolved in cartel to increase the uniformity of corporate law. Prior tothat time, scarcely any director had ever been held liable in damages for negligence,165hostile takeovers were a thing of the future, and corporate disclosure rules weresimple. In such a world a provision like s 241 is virtually irrelevant-there is nosignificant liability to contract out of! The corporate law of the day could remain fairlysimple, uniform, and unchanging. Just as the Soviet Union kept up with capitalistsystems earlier in the century, but was crushed underfoot in the information age,166 sotoo monopolistic production of corporate law is initially reasonably successful butgradually becomes overwhelmed. We need to look at the claims of state competition inthe late 1990s, based on the needs of the future, not at its performance forty or moreyears ago under different circumstances.

I now turn to Ian Ramsay's substantial, scrupulously even-handed assessment ofthe arguments for and against state competition. He acknowledges four groups ofarguments against state competition; these ultimately incline him towards agnosticism.

First, national regulation may produce better administration. There may beeconomies of scale in administration. Popular literature has accused the States ofincompetent administration. National regulation is also said to decrease compliancecosts, because only one law applies, not eight of them. Despite some appeal, theargument is unconvincing. As anyone familiar with Coase's theory of the firm will

163 Ibid at 845.164 For details of the legislation, see M J Whincop, above n 23 at 228 (note 267). For a

discussion of Australian state legislation to restrict takeovers, see I M Ramsay, above n 2 at194.

165 Cf Re Australasian Venezolana Ply Ltd (1962) 4 FLR 60.166 F Fukuyama, The End ofHistory and the Last Man (1992) at 89-97.


know, economies of scale can be captured by contracting as well as by integration.167 Ifthere are economies in administration, States could capture these benefits byconferring jurisdiction under their laws on the ASIC. Giving States a "make-or-buy"option in administration (that is, creating their own regulators or cutting a deal withanother) would be a more persuasive test of the existence of economies of scale thantheory is.168 Unless State competence is exogenous and cannot be affected by changingincentives, the competence argument is not insuperable, either. Indeed, I would expect"incompetent" administration by the States if they administer uniform laws. Since theyare deprived of the opportunity to compete for revenue by offering sUbstantial~

differentiated regimes, their incentive will be to minimise administration costs.1 9Finally, the compliance cost argument is also weak. As discussed below, if anappropriate choice of law rule is used, only one set of laws would apply to thecorporation whatever States it transacted in. True, it could create burdens for thirdparties dealing with the corporation, but since I propose a move from uniform to Statelaw, I suspect that much uniformity would be retained, unless there were substantialadvantages to innovation.

Secondly, Ramsay points out that State law creates externality problems-Stateswill try to impose the cost of their laws on out-of-State residents. Part of this problem isthought to lie in the State's greater susceptibility to interest group pressure. The bestexample is anti-takeover laws passed by the States. On the other hand, I have arguedabove that interest groups have a substantial influence on Federal law. Interest groupsfunction less effectively in a federal system where exit costs are low.170 However,"midstream" changes to legal rules (such as State anti-takeover laws) can functionredistributively. ThllS, we discern the real problem Ramsay is clearly driving atshareholders need protection against midstream rule changes. The best protectionagainst such redistribution is not national law per se (as Federal law has changed inmidstream on many occasions), but some form of protection against midstreamchanges (such as entitlement to opt out). I shall argue below that the Federalgovernment can provide this protection without actually writing the rules.

Thirdly, Ramsay argues that Federal law is necessary if there is a role formandatory rules. This is a big "if". For a mandatory rule to be justified in efficiencyterms, every contracting party would have to favour the rule-but if this was so, whywould parties contract out of it? I believe that the only mandatory terms likely to beefficient are those imposed by courts. There are no efficient statutory mandatory rules,because the parliament, like the parties, must specify a rule before the contract isentered, whereas courts have the advantage of being able to act ex post.171 If that is so,the case for national regulation collapses.

Fourthly, Ramsay correctly notes that Australian States lack incentives for supplyside competition. I agree that the current stakes are too low. Canada may suffer a

167168

169

170171

R Coase, "The Nature of the Firm" (1937) 4 Economica 386.It also conforms to new trends in public administration: see below text accompanying n226.However, this argument is also true of a federal regulator, which will be motivated by suchfactors as decreasing political risk, the desire to build empires, and increasing the size of itsbudgetary appropriation.B H Kobayashi and L E Ribstein, above n 17.I Ayres, above n 23. See above text accompanying nn 160-161.


similar problem.172 In this era of tax reform, the likelihood of a major new tax isminimal. One possibility would be to allocate a percentage of the proceeds raised fromthe corporate income tax, and divide it amongst the States according to the taxpayersincorporated in the State. This may even unite the States' dream of being able to lock ina share of tax revenue with a pro-competition goal.173 So, incentives are real problems,but not insoluble ones.

Dividing legislative responsibilityThe most substantial problem is dividing up the Corporations Law: what should benational, and what should be the subject of state competition? My basic criterion is toallow parties to choose the law applicable to their relations, while protecting thirdparties against any externality that these choices would impose. Below, I look at theprimary provisions of the Corporations Law, chapter by chapter.

Interpretation, Constitution and internal administrationChapters 1 and 9, as interpretation and procedural provisions, contain little that issubstantive. They should follow the allocation of the parts of the law to which theyrelate. Chapters 2A to 2J, which deal with constitution and internal administration arestrong candidates for competition. Basic issues of the powers and constitution of thecorporation have no external effects.174 So, too, the basic provisions on share registers(ch 2C) and share capital (ch 2H). It is interesting to note how, in these basic issues ofconstituting the corporation, the Commonwealth's recent approach has reduced choice,not increased it. Consider, for example, the elimination in 1998 of the company limitedby shares and guarantee.175 Although not often used, that company type may havevalue as a standard form contract to some parties. Likewise, the Commonwealth camevery close to doing away with the no liability company.176 The Commonwealth hasalso stifled State incentives to propose the limited partnership as an alternative toincorporation by unfavourable tax treatment.177

172173

174

175176177

o JCumming and JG MacIntosh, above n 12 and text accompanying n 12.See, eg, M Gratton, "PM Told Federal-State Tax Mix Key to Reform", Australian FinancialReview, 16 April 1998, p 3; A Ryan, "Letter: States Need Revenue Basis" Australian FinancialReview, 27 April 1998, p 20.Maybe that is not wholly true. David Chamy has described some rules as being "focalpoints", having a sufficiently fundamental stature that their uniformity matters more thantheir actual content: above n 40 at 442-446. Corporate examples might include rules on theauthority of corporate agents, the ultra vires rule and so on: see, eg, M JWhincop, "Nexusesof Contracts, the Authority of Corporate Agents, and Doctrinal Indeterminacy: FromFormalism to Law and Economics" (1997) 20 UNSWLJ 274 at 294. My comment is that theprovisions in the Corporations Law on these sorts of issues are both acceptable anduncontroversial. It is hard to imagine why these issues would be the subject of competition.Any need for incremental change could be cooperatively negotiated between six states.State competition would have no baneful effects.Corporations Law, s 1416.Second Corporate Law Simplification Bill 1996, proposed cIs 112 and 1415.I M Ramsay, "The Expansion of Limited Liability: A Comment on Limited Partnerships"(1993) 15 Syd L Rev 537; Income Tax Assessment Act 1936 (Cth) ss 94J-94Q.


Vestigial provisions regarding par value probably would have died much earlierunder a state competition model, as they did in the United States.178 The capitalmaintenance provisions in ch 2J may involve an externality.179 Creditors may be worseoff where a State has liberal rules on capital maintenance. However, I suspect it wouldbe rare for a corporation to seek reincorporation in order to dilute a creditor's claim,given that the costs of reincorporation (legal costs, the costs of convening a meeting,registration fees, and so on) are substantially up front. If midstream changes are notsignificant, the rules are simply part of basic background rules.180 Where contractingcosts are high, the risk of dilution can be priced; otherwise, the creditor can contract foran option to "put" the debt if the corporation reduces its capital.181

Naturally, I favour state competition in respect of the directors duties and membersrights provisions in chapters 2D, 2E, and 2F. These are the major provisions onshareholders' rights and corporate governance. The Commonwealth might continue toprovide for criminal penalties for some, at least, of the ground covered by the offencesin s 232 in, say, the Crimes Act 1914 (Cth). An anti-fraud provision is agreeable even tomost contractarians.182 The charges provisions in chapter 2K are primarily concernedwith insolvency issues, and should be dealt with as the rest of chapter 5 is. Chapters2M and 2N (accounts, audit, and annual returns) are more complex. My provisionalanswer is this: for companies that are not publicly traded, accounts and disclosureprovisions really only impact on shareholders. These issues could safely be left to Statelaw. I defer the question of publicly listed companies until I reach chapter 7, as theclaims are more evenly matched there.

External administrationChapter 5 is a case where the choice of incorporation may involve a third party effect,since creditors have no say in incorporations or reincorporations. Although managersmight choose incorporation to prejudice creditors, this is not very likely for reasonswhich have been given. Creditors can protect themselves in ways we have alreadyexplored. Managers of a solvent company at least will normally attempt to minimisethe cost of loan capital, which is inconsistent with adopting a discriminatory choice oflaw.183 On the other hand, there are problems with managers of insolvent companies.

178

179

180

181

182183

JC Coffee, above n 122 at 1636-1639; F S McChesney, "Intellectual Attitudes and RegulatoryChange: An Empirical Investigation of Legal Scholarship in the Depression" (1988) 38 JLegEd 211 at 233-234.These provisions prohibit distribution of capital to the shareholders (eg, capital dividends,share buy-backs, and the like), in order to protect creditors: Trevor v Whitworth (1887) 12App Cas 409.Since I propose a Commonwealth law against insolvent trading (see below textaccompanying n 183), creditors would also have most of the protections proposed underthe Company Law Review Bill 1997, c1256C.This has been a common provision in debt and preferred stock agreements: C Smith andJWarner, "On Financial Contracting: An Analysis of Bond Covenants" (1979) 6 JFin Econ117; D JStokes and M JWhincop "Covenants and Accounting Information in the Market forClasses of Preferred Stock" (1993) 9 Contemp Acc Res 463. Cf JC Coffee, above n 46, 1505-28(impact of hostile takeovers on bond covenants).F H Easterbrook and D R Fischel, above n 20 at 129-130 and 322-323.R K Rasmussen and R 5 Thomas, "Delaware as a Forum for Insolvent Corporations:Precommitment, Investment Incentives, and the Race to the Top" (1998) unpublishedpaper.


The moral hazard problem created by a manager's asymmetric information aboutinsolvency is best dealt with by insolvent trading provisions creating a personalliability, ideally taking default form to effect separation in equilibrium betweenmanagers of solvent and insolvent corporations.184 I suspect that insolvent tradingprovisions may be a casualty of state competition, since they create a very significantexposure for managers. Although managers probably would incorporate on theassumption that the enterprise succeeds, rather than on the basis that it will end upinsolvent, they would be induced to choose a State that repealed insolvent tradingprovisions.18S Other States would probably follow. Even if not all States followed suit,the problem for the creditor is that a choice of incorporation can be very difficult tounravel into information regarding insolvency in the context of specific transactions.186

If so, the information forcing effect of insolvent trading provisions would bediminished. I therefore favour a Commonwealth insolvent trading provision, althoughnot the current one.

The other external administration provisions should remain as Commonwealthlaw. The most important thing about these provisions is that they resemble a standardform contract between creditors, regarding respective priorities.187 Although it isconceivable that these contracts could be varied between creditors, it is relativelyunlikely (at least while the company is solvent) because of the high costs ofcoordination and collective action between creditors. There is accordingly a reasonablystrong case for retaining uniformity in matters of external administration (liquidationand voluntary adnlinistration in particular). The value of uniformity is higher in thisarea of procedural law that distributes assets amongst claimants.188

TakeoversI would permit the States some responsibility for passing their own laws in place of thetakeovers provisions in chapter 6. I say this with trepidation, since the anti-takeoverlaws of the American States represent the strongest argument against statecompetition.189 Having said that, though, State laws cannot do much worse than thelaws we already have, which markedly increase the cost of control premiums. Themain problem arises from the likelihood that existing companies, when given a chanceto reincorporate after the Commonwealth monopoly is broken, would adopt inefficientlaws. Say a State law abandoned the equal opportunity principle, and freed upcorporate control transactions, as part of its initial post-Corporations Law legislation. Ifexisting corporations were made to choose a State in which to incorporate, mostpublicly traded companies would probably avoid that State. Based on the Americanexperience, the only corporations likely to incorporate there would be newly floatedcompanies.190 Thus, unless all of the States passed such legislation, the advantages of

184

185186187

188189190

M J Whincop, "Taking the Corporate Contract More Seriously: The Economic CasesAgainst, and a Transaction Cost Rationale for, the Insolvent Trading Provisions" (1997) 5GriffL Rev 1.LA Bebchuk, above n 154 at 1489-1490.M J Whincop and M E Keyes, above n 123 at 535.Cf T H Jackson and R E Scott, "On the Nature of Bankruptcy: An Essay on BankruptcySharing and the Creditor's Bargain" (1989) 75 Va L Rev 155.J N Gordon, above n 98 at 1591. See above n 174.See above text accompanying nn 156-157.Network and learning externalities may be a disincentive to incorporate in this jurisdiction.


state competition may be difficult to obtain, given the strength of management'spreference for equal opportunity rules, and the problem of impoverished choice inmidstream governance changes. The best solution may involve State and Federalcomponents.

First, the Commonwealth should pass a law requiring a shareholder vote to opt intoa change in State law restricting takeovers (inter alia) as I discuss below. Secondly, theCommonwealth should establish various minimum standards to counter the mainsorts of State anti-takeover legislation in the United States, such as those requiring theconsent of state officials, the board, or a majority of "disinterested" shareholders for thetakeover to proceed; and those directed to firms incorporated in other States. Thirdly,Commonwealth legislation should invalidate defensive tactics designed to frustratetakeovers and entrench management, while leaving the prohibition of auctionfacilitating takeovers to State law, given the lack of economic consensus on that issue. Iwould leave remaining issues to State law in order to provide scope forexperimentation and contractual choice.

A principle underpinning the Corporations Law's takeover provisions is the needfor full disclosure by the company and the offeror, in order to permit informeddecisions.191 In principle, these should be treated in the same way as the otherdisclosure provisions of the Corporations Law.192 If these can be left to State law(which I shall consider below), the takeover provisions should be treated in the sameway. However, even if this condition cannot be met, for instance, because there areexternal effects from shareholder-manager contracts regarding takeover disclosure,this should not serve as a veto over the larger issue of whether takeover law should beleft to the States. There is no reason why provisions regarding corporate control cannotbe dealt with by the States, while disclosure is regulated by the Commonwealth, as inthe United States.193

Sometimes, the regulation of disclosure can impact on the conduct of a takeover.194

For example, requiring that offerees have a certain time in which to examine thebidder's offer can make it more likely that an auction for control will develop in theinterim if the mandated period is sufficiently long. It is true that economic analysis hasnot reached a definitive conclusion about whether auctions of control are optimal.195

Some authors refard them as efficient because they move assets to the users who valuethem highest.19 Other authors regard the transfer of an asset at a higher price asestablishing a first order efficiency criterion, so making the costs of an auction adeadweight loss.197 Nonetheless, even if one accepts the desirability of auctions,

191192193194

195

196

197

Corporations Law, ss 634-648, 673-683 and 687-705.See below text accompanying nn 203-220.Williams Act, codified in 15 USC §§ 78m(d), (e), 78n(d)-(f).D R Fischel, "Efficient Capital Market Theory, the Market for Corporate Control, and theRegulation of Cash Tender Offers" (1978) 57 Tex L Rev 1.On auctions generally, see I Ayres and JM Balkin, "Legal Entitlements as Auctions:Property Rules, Liability Rules, and Beyond" (1996) 106 Yale LJ 703.Above n 107; LA Bebchuk, "The Case for Facilitating Competing Tender Offers" (1982) 95Harv L Rev 1028; R J Gilson, "Seeking Competitive Bids versus Pure Passivity in TenderOffer Defense" (1982) 35 Stan LRev 51.F H Easterbrook and DR Fischel, "Auctions and Sunk Costs in Tender Offers" (1982) 35Stan L Rev 1; A Schwartz, "Search Theory and the Tender Offer Auction" (1986) 2 J L Eeo &Org 229.


CLERP's proposal to permit a private transaction crossing the takeout limit is designedto decrease the number of auctions.198 This shows that the only valid purpose forregulating disclosure in takeovers is to increase the amount of information available toshareholders-it should not be used for, or be expected to achieve, other substantivepolicy objects.

Securities regulation and the futures industryChapter 7 provides, first, for a series of rules that deal with securities professionals andexchanges, and, secondly, it regulates dealing in securities (including disclosureobligations, insider trading, and market manipulation). I deal with these in turn.

The argument for state competition is that shareholders and managers willincorporate in the State which offers value-maximising terms to fill gaps in incompletecontracts. The argument might be applied to the securities regulation context, bysaying that an investors' dealings with a securities firm would be governed by the lawof the State in which it is incorporated.199 The problem is that the State ofincorporation of that firm is chosen by the shareholders of the securities firm, not bythe investors whose interests are supposed to be paramount in this area of law.200 Stateregulation of contracts between investors and securities firms is not, however,impossible. States could promulgate their own laws. The securities firm and theinvestor could opt out of Commonwealth laws by agreeing to a choice of law clauseselecting State law to govern their contracts.201 There is a strong argument in favour ofpermitting parties to choose the law governing their own agreement, and of limitingthe Commonwealth's monopoly.202 Provisions that do not directly relate to investorcontracts would remain subject to Commonwealth law.

The Commonwealth alone should regulate securities exchanges. An exchangeshould not be permitted to choose the law to which its market operations are subjectby reincorporating, or to choose the law which it deals with its customers. As I notedearlier, Australia only has one stock exchange. There is an obvious monopsonyproblem. Similar thinking suggests that chapter 8 on the futures industry shouldremain Federal law.

A very different problem is raised by those securities laws which apply to the actualor proposed contracts between a corporation issuing securities (an "issuer") and thoseinvesting in them. The laws in this category are the prospectus laws, the continuousdisclosure provisions, and the insider trading laws that apply to corporate managersand other insiders. We might also add the accounts and audit requirements of chapter3, and the disclosure obligations associated with takeovers in chapter 6. Are these rulesa legitimate subject of state competition?

198199

200201

202

See above text accompanying n 99.Clearly, it would be cumbersome to hold that transactions between an investor and asecurities firm are bound by the law applying to the company issuing the securities, sincethat would mean the parties' relation is potentially affected by a range of laws. If theinvestor has not given decisive instructions as to what securities to buy the securities firmwould be unilaterally choosing the law.R Romano, above n 35.One might confine contractual freedom of this sort to institutional and other largerinvestors, to the exclusion of conventional objects of consumer protection laws.Questions of incentives to develop efficient laws remain, however.


While there are significant arguments directed against mandatory disclosureobligations and Securities and Exchange Commission regulation,203 few scholars havebeen able to find much enthusiasm for securities regulation by the States. Easterbrookand Fischel offer an apparently watertight argument when they say the justification offederal law lies "in the efficiency of enforcing in one case all claims that arise out of asingle transaction."204 In proposing state competition as the solution to Australia'sregulatory :Eroblems, Bernard Black regarded national law applying to disclosure asobligatory. 5 Black acknowledged that larger investors might be able to distinguishgood securities regulation mechanisms from bad ones, but that small and foreigninvestors might not. They would be unable to distinguish good from bad regimescreating the famous "lemons" rroblems. Hence, there is a "bulletproof" argument forfederal minimum standards.20 Black's argument proves too much-and too little. Itdoes not tell us why it does not also hold in the corporate governance context. Oneattempt to justify the difference would suggest that disclosure rules are needed tomake proper judgments in the corporate governance context, but this assumes ananswer to the very question in need of analysis-why national disclosure laws arebetter than State laws for this purpose. This justification is also inconsistent with theevidence that national disclosure rules had no substantial impact on securitiesreturns.207

Romano argues that the reasons why state competition works for corporategovernance apply equally to securities regulation.20 Promoters will choose thesecurities regime that minimises the firm's cost of capital. Investors will shun regimesthat countenance fraud or duping investors. Easterbrook and Fischel's argument thatnational securities law is needed in order to select a single law to regulate a transactionis not correct if choice of law rules are revised to permit issuers to choose a domicile forsecurities regulation purposes.209 Given the evidence that inter-jurisdictionalcompetition has been beneficial to investors (even if it has fallen short of supplying thelex summus),210 and the lack of evidence that federal securities laws improve securitiesreturns,211 Romano states a strong case for State law. If these conditions hold true in

203

204205

206

207208

209210211

N Wolfson, "A Critique of the Securities and Exchange Commission" (1981) 30 Emory LJ119; H Kripke, The SEC and Corporate Disclosure: Regulation in Search of a Purpose (1979);J R Macey, "Administrative Agency Obsolescence and Interest Group Formation: A CaseStudy of the SEC at Sixty" (1994) 15 Cardozo L Rev 909; G Stigler, above n 58; S M Philipsand J R Zecher, The SEC and the Public Interest (1988).F H Easterbrook and 0 R Fischel, above n 20 at 285.B S Black, "The Case for Competition in Australian Company Law", (1997) unpublishedpaper.Ibid at 11. The "lemons" argument, outlined in G Akerlof, "The Market for 'Lemons': TheQuality of Uncertainty and the Market Mechanism" (1970) 84 QJ Eco 488, holds that underconditions of information asymmetry, where sellers find credible signals difficult to make,bad products will displace good ones. This is, in sum, a pooling equilibrium in whichsellers are indistinguishable, and price reflects average quality.See above text accompanying n 58.Romano, above n 35. See also M JWhincop and ME Keyes, "The Market Tort In PrivateInternational Law" (1999) 19 NWJ Int L & Bus (forthcoming).Ibid. See below text accompanying nn 234-242.See above text accompanying n 154-155.See above text accompanying nn 57-58.


Australia as well (there is no reason to believe that they would not), the argument isequally tenable.

There is a further reason to support state competition for disclosure laws inAustralia. The trend of Australian corporate law, as regards disclosure obligations, isto go from specification to generality. The prospectus rules are the best example. Priorto the Corporations Law, Australia relied on a checklist and prospectus vetting byCorporate Affairs Commissions. The national laws jettisoned such an approach withwhat it is quaintly called a "market" approach, which used a disclosure standardwhat investors "would expect"-rather than disclosure rules.212 The continuousdisclosure laws are similar. The government is telling a simple story: "We have no ideawhat the optimal disclosure rules are. So we cannot tell you what to disclose. We arenot even going to vet the prospectus. We'll leave it to the courts to work out whetheryou should have disclosed something, based on what investors could be expected towant. 1I There may be good reasons to prefer standards to rules in some areas of lawmaking, but the efficiency claims of rules in a constantly repeated activity such asfundraising are strong. Competition between rule- and standard-based disclosurewould be articulate evidence of which is superior.

A serious "market" approach to laws would permit corporations to invoke the lawsof a chosen domicile.213 Companies may find that their cost of capital is lower if theycould choose, for example, a rule-based regime. Preferences may vary between firms. Ifso, a "market" approach to securities regulation is compelling. I therefore believe thereare strong arguments for state competition. This argument would apply to prospectusdisclosure, continuous disclosure, and periodic accounts.214 What of takeoverdisclosure? Normally, it is in the mutual self interest of managers and shareholders tobe fully informed about the takeover, so arguments suggesting some sort of inherentunder-disclosure bias are unconvincing. However, there are two exceptions. Oneproblem in a takeover is ensuring that information is released regarding possibleconflicts of interest by managers. It is important for shareholders to know the intereststhe managers have if the takeover succeeds or fails, in order to reflect on anyinformation disclosed while the com}§any is in play. This problem is most acute in thecontext of a management buy-out.2 Normally, the managers of a company in playhave a motivation to release information that should increase the price the offerorpays. This may be to discourage the offer from proceeding, or for personal self-interestwhere managers hold direct or indirect equity interests. However, the managementbuy-out context is quite different, as management has an interest in bidding the controlpremium down. I would support a limited Federal rule requiring disclosure ofmanagement interests in a takeover, and a more expansive disclosure procedure wherea management buy-out takes place. My conclusion is influenced by observedweaknesses in state competition in the context of management self interest in controlcontests.

212 See above text accompanying nn 53,63-67. See also M JWhincop, above n 19.213 Romano, above n 35. See below text accompanying nn 234-240.214 A possible downside is that multiple jurisdictions with their own non-uniform disclosure

requirements may increase the costs of processing information, compared to a federaldisclosure schedule (which is not something we currently have).

215 JC Coffee, above n 127.


The other provisions that remain of chapter 7 relate to insider trading (s 1002G) andmarket manipulation offences (ss 995-1001). I have no major objection to the marketmanipulation provisions being federal law. There is no apparent way in which thoselaws could be selected by contract. These provisions have a generally sensible objectdeterring behaviour which distorts security prices and therefore capital allocationdecisions. The insider trading provisions are another matter. Insider trading does notgenerally distort price. On the contrary, it is more likely to push it towardsequilibrium.216 This is not the place for examining the motivations for its prohibition.However, many scholars, including me, would agree that while there is a case for someprohibition (especially against insider trading by managers),217 those in theCorporations Law are much too wide.218 The provisions virtually eliminate informedtrading, even by outsiders unencumbered by a scrap of fiduciary duty or otherobligation. Informed trading is fundamental to price setting, as the marketmicrostructure literature shows.219 I would permit managers and shareholders tochoose insider trading laws as part of their incorporation choice.22o There are noobvious third party effects. Qualitative evidence suggests most senior managers take anegative view of insider trading,221 so there would be no serious conflict at theincorporation stage. There is also no reason not to permit the States to experiment withdifferent rules.

216

217

218

219220

221

M Scholes, "The Market for Securities: Substitution Versus Price Pressure and the Effects ofInformation on Share Prices" (1972) 45 ] Bus 179 at 200-204; N Georgakopoulos, "InsiderTrading as a Transactional Cost: A Market Microstructure Justification and Optimization ofInsider Trading Regulation" (1993) 26 Conn L Rev 1 at 20-23; R J Gilson and R Kraakman,"The Mechanisms of Market Efficiency", (1984) 70 Va L Rev 549 at 630-634.See, eg, J C Coffee, "Insider Trading versus Selective Disclosure: Distinguishing Fraud fromFavoritism" in K Lehn and R Kamphis Jr (eds), Modernizing US Securities Regulation:Economic and Legal Perspectives (1992) at 139; N Georgakopoulos, above n 216;N Georgakopoulos, "Frauds, Markets, and Fraud-on-the-Market: The Tortured Transitionof Justifiable Reliance from Deceit to Securities Fraud" (1995) 49 U Miami L Rev 671;M J Whincop, "Towards a Property Rights and Market Microstructural Theory of InsiderTrading Regulation: The Case of Primary Securities Markets Transactions" (1996) 7 1BFL?212.M J Whincop, above n 217; A Black, "The Reform of Insider Trading Law in Australia"(1992) 15 UNSWL] 214; T Bostock, "Australia's New Insider Trading Laws" (1992) 10 CSL]165; W Hogan, "Insider Trading" (1988) 6 C & SL] 633.N Georgakopoulos, above nn 216 and 217.The strongest advocate of a contractarian approach to insider trading is Jon Macey:J R Macey, "From Fairness to Contract: The New Direction of the Rules Against InsiderTrading" (1984) 13 Hofstra L Rev 9.R Tomasic, Casino Capitalism (1991).


To summarise my preferred allocation of substantive areas of law:

••~~!~~il;if~ii.fbj:;Ch 1 (Interpretation)

Ch~ (Registering a,Company)

Ch 2B (Basic Features)

Follow the related substantive provisions.

Entirety

Entirety

Ch 2C (Registers)

Ch 2D (Officers)

Ch 2E (Related PartiesProvisions)

Ch 2F (Members' Rights)

Ch 2G (Meetings)

Ch 2H (Shares)

Ch 2J (Transactionsaffecting share capital)

Ch 2K (Charges)

Ch 2M (Financial Reports)

Ch 2N (Annual Returns)

Ch 5 (Externaladministration)

Ch 6 (Takeovers)

Fraud offences by officers

Entirety

Entirety

Minimum standards fordisclosing managementinterests and restrictinganti-takeover legislation

Entirety

Remainder

Entirety

Entirety

Entirety'

Entirety

Entirety

Entirety

Entirety

Possible exception forschemes of arrangementnot involving insolvency

Remainder

Continuous disclosureInsider tradingProspectuses

Ch 7 (Securities)

Ch 8 (Futures industry)

Ch 9 (Miscellaneous)

Regulation of securitiesexchanges andprofessionalsMarket manipulation

Entirety

Follow the related substantive provisions.


Predicting a competitive equilibriumWould competition between the States lead to substantially similar statutes, as in theUnited States, or a more differentiated product range? Klausner has argued that thepresence of network externalities causes competitive equilibria to be pathdependent.222 That is, they depend very much on initial conditions impacting on themarket. I wish to briefly speculate about two initial conditions that might be important.

First, the road to state competition in the United States took a very different,decentralised route to the interventionist one I advocate for Australia. Although theAmerican States were always responsible for the grant of charters, there was nosubstantial competition until late in the nineteenth century. The lead was taken byNew Jersey. Its laws were copied by Delaware, which initially offered a lowerfranchise tax. When in the 1910s, New Jersey attempted to tighten the laws it had takenthe initiative in loosening, it lost most of its incorporations to Delaware.223 Delawarethus took a lead that was never seriously threatened. A re-introduction of Stateresponsibility for corporate law would not permit any State to obtain a first-moveradvantage in this way. States would not be able to offer any existing advantage inprecedents, since they would have no local laws to have generated them. Without aleader with a large, and therefore locked in market share, network externalities mightpossibly lead to greater differentiation.

Secondly, much depends on the circumstances of State governments. It is easy tosee minority governments, or governments that do not control the upper house,passing a law that retains most of the current law's mandatory content. The leastmandatory laws would probably be adopted by Conservative governments withbicameral majorities, of which the Victorian government is the best current example.However, such a law may not attract incorporations if there was a significant risk of a"New Jersey". That is, corporations may fear that a good law today may turn into a badlaw tomorrow, when the reformist "zeal" of a new government takes effect.224 Therewards of state competition may affect this problem. A government addicted to therevenue from incorporations may find the prospect of losing that revenue chills itszeal. This depends on the significance of the rewards, compared to overall sources ofState revenue. Delaware's smallness and the scale of franchise taxes to total revenueseems to be a ma!or factor in its projection of a credible image of receptivity tocorporate needs.22 If, however, the rewards are small in scale, the problem ofpoliticised corporate law is more likely.

OBSTACLES TO CORPORATE FEDERALISM

The proposed model of competitive federalism would change aspects of theadministration of corporate law in this country, and it raises a range of legal issuesrelated to jurisdiction and choice of law. These matters are discussed in this part. I also

222 M Klausner, above n 117. For a discussion of path dependency and related concepts, seeM Roe, "Chaos and Evolution in Law and Economics" (1996) 109 Harv L Rev 641.

223 C Grandy, "New Jersey Corporate Chartermongering, 1875-1929" (1989) 49 J Eco Hist 677 at691-692.

224 The next part considers the availability of measures to combat this problem.225 Romano, Law as a Product, above n 152.


sketch how the Commonwealth can play a role in improving the quality of theoutcomes delivered by this market model.

Administration and the criminal lawWho would administer the corporate law promulgated by the States? The AustralianSecurities and Investment Commission (ASIC) would continue to administer thoseparts of the law that remain federal. The States would have to decide how their lawwas to be administered. They could establish their own securities commissions, orassign the work to pre-existing bodies. However, the States should be able to choose toconfer the responsibility, in whole or in part, on ASIC. There may be substantialeconomies of scale and scope in administration of corporate law.226 ASIC may havesubstantial administrative expertise, or working relations with corporations which theStates could not easily replicate. The States might conceivably establish their owncommissions to promulgate policy, and opt between ASIC, a local commission, andthose of other States for the purposes of monitoring compliance and bringingenforcement proceedings. This is consistent with modern trends in publicadministration and management.227 Corporate federalism would encouragecompetition between providers of corporate administrative services, while enablingStates to capitalise on economies of scale where these exist.

Whatever administrative arrangements are selected, they must facilitate theapplication of the single body of law chosen by the incorporating parties. In otherwords, it would be crucial that the securities commissions not be able to enforce thelaws of the State by which the commission is formally established against a transactionsubject to the corporate law of another State, even though there are sufficientjurisdictional connections. Assume that South Australia retains chapter 2E, butQueensland adopts a provision permitting disinterested directors from assenting to atransaction in which a director, R, has an interest, the substance of which is fullydisclosed. S Ltd chooses to incorporate in Queensland, but sells its shares in an initialpublic offer to investors in other States including South Australia. The SouthAustralian Securities Commission should not be able to enforce chapter 2E against R orthe other directors, even if S Ltd's principal place of business was in Adelaide. Ifadministrators are permitted to enforce their own laws against companies that haveconnections with their States, the benefits of inter-jurisdictional competition areeroded.

I have suggested that there may be a case for the Commonwealth to pass criminallaws applying to cases of fraud by directors, even though issues of directors' dutieswould normally be the province of the States.228 It would cover similar territory to subss 232(2), (5) and (6). At the moment, these provisions stand independently of fiduciaryand other duties of officers, and they are enforced by a triple-headed regime which cansubject the offending officer to civil liability, and criminal and non-criminal

226 I M Ramsay, above n 2 at 199. See also the discussion above text accompanying n 164.227 I envisage something like a purchaser/ provider model: see, eg, T Ashton, "The

Purchaser/Provider Split in New Zealand: The Story So Far" (1995) 18 Aust Health Rev 43.For further analysis of the ASIC, see M JWhincop, above n 19.

228 See above text accompanying n 182.


sanctions.229 I would favour the abolition of this regime. Only criminal penalties needbe retained in respect of the smaller subset of the behaviour-fraud-that is theappropriate compass of Commonwealth responsibility.230 It would be for States todecide whether or not they wanted to preserve non-criminal sanctions to enforce otherstatutory duties.

A Commonwealth statute creating offences also needs to be limited to behaviourthat falls outside the scope of managerial discretion preserved by State corporate lawrules and corporate contracts. If the Commonwealth retains offence provisions, itsinterpretation could establish norms that are, in some respects, inconsistent withlegitimate managerial discretion under State law. The Commonwealth statute wouldprevail by virtue of s 109 of the Constitution. Therefore, the statute should include aproviso that it is not intended to cover the field, but merely provides for furthersanctions for behaviour that State law, and the parties, do not regard as permissible.This is the province of criminal sanctions for breach of corporate contracts-they mustbe directed to behaviour that no contracting parties could reasonably regard aslegitimate-in short, to fraud.231

Choice of law, jurisdiction, and the courtsThe demise of national laws in favour of competition raises a range of privateinternational law problems regarding choice of law and jurisdictional issues. Thechoice of law issues are relatively straightforward. It is crucial that the laws of the Stateof incorporation be applied to issues arising between shareholders and managers.American law accomplishes this by applying the internal affairs doctrine. This is achoice of law rule selecting the law of the State of incorporation to apply to problemsarising from the corporation's internal affairs.232 This principle is also a part ofAustralian law, even though there has been scant need for it over the last fewdecades.233

A more complex issue arises from the above suggestion that States assumeresponsibility for important matters of securities regulation, including most matters ofdisclosure. The American rule aEplying to securities transactions is that the law of theplace of the transaction applies. 34 Romano argues that this rule is a principal obstacleto the implementation of a competitive, market-based securities regulation regime.235Australia does not seem to have developed a very clear choice of law rule applicable tosecurities transactions. The problem with choice of law applying to securitiestransactions is that the source of law is statutory. Choice of law issues arising from

229

230

231232

233234235

For a discussion of the content of these provisions, see M JWhincop, "Developments inDirectors' Statutory Duties of Honesty and Propriety" (1996) 14 C & SLJ 157. For adiscussion of enforcement procedures, see H Bird, "The Problematic Nature of CivilPenalties in the Corporations Law" (1996) 14 C & S LJ 405.S Shavell, "Criminal Law and the Optimal Use of Nonmonetary Sanctions as a Deterrent"(1985) 85 Col L Rev 1232; M JWhincop, "An Economic Analysis of the Criminalisation andContent of Directors' Duties" (1996) 24 ABLR 273.M JWhincop, ibid.Restatement (Second) of Conflict of Laws (1971) § 302(2). See generally P J Kozyris, "CorporateWars and Choice of Law" [1985] Duke LJ 1, 50.E I Sykes and M C Pryles, Australian Private International Law (3rd ed 1991) at 398-399.Uniform Securities Act § 414, 7B ULA 672 (1985). See generally R Romano, above n 35.R Romano, above n 35.


statutes are renowned for their confusion.236 A court asked to apply a forum statute toa transaction will try to locate a provision delineating the statute's territorial operation.If it can find one, which is not demonstrably unconstitutional, it will usually bedispositive. If it cannot, the law is a jumble as to what the court is to do next.237 Thereare two broad approaches. One involves applying standard private international lawprinciples. For example, if securities transactions are contracts, one would apply achoice of law rule to ascertain the proper law of the contract. Anglo-Australian lawgenerally applies the law agreed to by the parties as the proper law.238 The otherapproach requires a court to divine criteria that define the statute's territorialoperation, in light of its policy aspirations.239

As Romano observes, an inefficient choice of law rule can destroy the value ofcompetitive securities regulation. If a corporation is bound by the law that applies inany place where securities are sold, it either must truncate the markets in whichsecurities are sold, or comply with the most demanding laws (assuming thatsimultaneous compliance is even possible). This result would hold if the statutesupplied a choice of law rule stating that it applied to all transactions within thejurisdiction, or, otherwise, the court reconstructed the statute's operation in a spatioterritorial manner. Subjecting the statute to standard contract choice of law rules hasmuch more appeal, if parties are permitted to contract into statutory schemata. Itwould achieve the same benefits as the internal affairs rule.

Romano suggests two possibilities-one is to subject transactions to the securitieslaw of the place of incorporation, the other is to permit the state to specify a securities"domicile" to govern transactions in its securities. She prefers the latter since itprovides for more flexibility.240 I agree. However, at least during a transitionaryperiod, I believe it may be more conservative to adopt the former solution in Australia.This would provide the opportunity to examine the effects of state competitionwithout engrafting another layer of complexity atop it. Ideally, the Commonwealthwould codify choice of law rules in pursuance of s 51(xxv) of the Constitution,241 or thecorporations power (if these provisions were limited to choice of corporate law).

The other crucial component needed to support state competition relates tojurisdiction. Courts can have crucial roles in competition between jurisdictions.Theories of Delaware's supremacy rely at least in part on a superior judiciary.242 Atpresent, the jurisdiction of Australian courts in corporate matters is expanded by thecross vestin~ laws, which confer the jurisdiction of each State court on every otherState court.2 3 The increased opportunity for forum shoppers to establish jurisdiction

236

237238239240241

242243

S Dutson, "The Territorial Application of Statutes" (1996) 22 Mon UL Rev 69; M J Whincopand M E Keyes, above n 124.E I Sykes and M C Pryles, above n 233 at 240-248.Vita Food Products Inc v Unus Shipping Co [1939] AC 277.OS Kelly, Localising Rules in the Conflict of Laws (1974).R Romano, above n 35.This seems a constitutional exercise of power: Breavington v Godleman (1989) 169 CLR 41 at83; M C Pryles and P Hanks, Federal Conflicts of Laws (1974) at 173-174; Australian LawReform Commission, Choice ofLaw (Report No 58, 1992) at § 3.24.See above text accompanying nn 158-161.Corporations Act 1989 (Cth), ss 51-53; Corporations ([State]) Acts 1990, ss 42-44 (in eachState). This legislation is in substantially the same terms as the Jurisdiction of Courts


in another court is partially constrained by the transfer of proceedings provisions.These provide for transfer (i) in order to resolve a multiplicity of proceedings, (ii) incircumstances where the legislation is the only basis the court has for jurisdiction, and(iii) otherwise in the interests of justice. Although there is continuing doubt about themeaning of the "interests of justice",244 courts generally take a flexible approach inorder to ascertain the most appropriate forum.

This is not suitable for a system of state competition. First, the Corporations Lawshould permit the corporate constitution to state a jurisdiction clause, requiring"corporate" litigation to be brought eXclusivel~ in a particular forum, which wouldnormally be the jurisdiction of incorporation.24 It is logical that the choice of a State'slaw will be given fullest and most accurate effect by its own courts. The use ofjurisdiction clauses should be a subject of contract between the parties, rather than ageneral rule compelling parties to use the courts of the State of incorporation. Becauseit is possible, especially in corporations whose securities are not publicly traded, thatthe State of incorporation has no substantial connections with the litigating parties, amandatory jurisdiction rule would not necessarily minimise the parties' joint litigationcosts.246

Secondly, the transfer provisions of the cross vesting legislation need amendment.The transfer provisions should indicate that they are subject to contract. An exclusivejurisdiction clause in the articles, or in some other contract should be enforcedspecifically. The transfer provisions should indicate that the courts of the State ofincorporation have a very strong claim as the forum conveniens. They should recognisethat a defendant seeking a transfer away from the State of incorporation has an onusthat would be discharged only in exceptional cases, and that seeking a transfer to thatState would rarely be resisted.

The final problem with the Australian court system is the High Court itself. Daniels,in his analysis of competition between the Canadian provinces, has noted that judicialreview by the Supreme Court of Canada of provincial courts' decisions may weakencompetition.247 If courts have a significant role in contributing to State corporate law,the High Court may end up homogenising laws in a way that undermines that role.American law has not suffered from this problem. The United States Supreme Courthas only a very limited authority to review matters of State law decided in State courts.Daniels' comment that the Canadian Supreme Court's docket is primarilyconstitutional cases, not corporate cases,248 is true also of the Australian experience.

244

245

246

247248

(Cross-Vesting) Act 1987 (Cth). There is equivalent legislation in all States and Territories.See above text accompanying n 7.The leading case is Bankinvest AG v Seabrook (1988) 14 NSWLR 711 (favouring a mostappropriate forum approach). It is not universally followed: Dawson v Baker (1994) 120ACTR 11; Paul v Mid Coast Meat Co Pty Ltd [1995] 1 Qd R 658 at 663; Baffsky v John Fairfax &Sons Ltd (1990) 97 ACTR 1 at 5-6.Exclusive jurisdiction clauses are normally enforced without demur: Oceanic Sun LineSpecial Shipping Co Inc v Fay (1987) 165 CLR 197 at 224, 230-232, 259-261; The Eleftheria [1970]P 94 at 103; Leigh-Mardon Pty Ltd v PRC Inc (1993) 44 FCR 88 at 99 ("Leigh-Mardon"). See alsoR K Rasmussen and R S Thomas, above n 183.See generally M J Whincop and M E Keyes, "The Nexus of Forums: A Contractual Theoryof Jurisdiction Over Corporations" (1998) 21 UNSWL/681.R J Daniels, above n 123 at 186-188.Ibid at 187.


On the other hand, the High Court's recent decisions in corporate law cases have beena source of concern, at least to me.249 Given that much of corporate law still relies onfiduciary principle and the negligence concept, which are not easy to commit tostatutory rules, the High Court's authority may transcend its infrequent engagementwith corporate law.

Whither the Commonwealth?I have already indicated the matters that the Commonwealth should continue to beresponsible for under the Corporations Law. However, two further issues remain.Should the Commonwealth compete for incorporations itself, and is there anything theCommonwealth can do to strengthen the integrity of state competition?

On the face of it, there seems no reason why the Commonwealth should notcompete for incorporations. There seems no insuperable constitutional obstacle, if itslaw is confined to the ACT under the territories' power. Corporations seeking to adoptits laws could incorporate there. At least initially, corporations may prefer this optionon a "devil-you-know" basis. As Daniels has observed of Canada, the corporate lawpassed at the federal level-the Canadian Business Corporations Act-has been avaluable source of innovation adopted by the other provinces.250 However, this is not atrouble free solution. The continued presence of Commonwealth laws may discourageexits to the States, and result in a lock-in effect.251 The interpretive uncertaintiesassociated with new State laws in substantially different form to the Commonwealthlaw will be high, as will be the costs of the learning effects when a corporationincorporated under State law markets its securities. Professional support services forcorporations will also be based on a decade of the Corporations Law. In contrast, thenetwork effects of State law depend on the likelihood of future adoption by a sufficientnumber of parties. Thus, the Commonwealth's continued role may distort the ultimatecompetitive equilibrium.252

Can the Commonwealth improve the ultimate outcome of the state competitionprocess? I have already suggested that it should pass a law embedding the necessarychoice of law rules, making appropriate amendments to the cross vesting legislation,and providing minimum standards for State takeover laws. However, there are twoother ways in which the Commonwealth might assist the integrity of the process.

First, it could protect minority shareholders when a corporation makes a decision toincorporate in one of the States. It is possible, although not really very likely, that statecompetition maximises total wealth, but decreases the wealth of minority shareholders.This is not much of a problem when a corporation comes into existence, since minorityshareholders will recognise anti-minority provisions in the State law and adjust theterms of the exchange. However, a "midstream" reincorporation may result in an

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M JWhincop, "Gambotto v WCP Ltd: An Economic Analysis of Alterations to Articles andExpropriation Articles" (1995) 23 ABLR 276 (discussing Gambotto v WCP Ltd (1995) 182 CLR432); M JWhincop, above n 229 (discussing R v Byrnes (1995) 183 CLR 501); M JWhincop,"A Doctrinal and Relational Critique of Shareholders' Special Contracts" (1997) 19 Syd L Rev314 (discussing Bailey v New South Wales Medical Defence Union Ltd (1995) 18 ACSR 521).R JDaniels, above n 123.See above text accompanying nn 162-163, 223.I suspect, though, that as a matter of politics the Commonwealth is unlikely to agree toabandoning its monopoly unless it can continue to compete with the States.


uncompensated wealth transfer from the minority to the majority. One way to dealwith such a problem is for the Commonwealth to give the minority shareholder a rightof appraisal on reincorporation, which would require the company to buy backminority shares.253 Following Black and Kraakman's work on self-enforcing corporatelaw,254 the company could be required to pay to those voting against the motion toreincorporate, who wish to cease to be shareholders, a value determined by anindependent valuation. This proposal is best limited to companies that were not listed,in which there is some identifiable controlling faction. It would increase the likelihoodof reincorporations being Pareto superior. Non-listed companies are likely to be onesin which minority shareholders are least able to diversify the risk associated withreincorporations. Moreover, in a listed company, a sufficient period of notice prior tothe resolution would perInit shareholders not wanting to reincorporate to exit thecompany by simply selling their shares.255

Secondly, the Commonwealth could attempt to do something about the "NewJersey" problem of States backpedalling on their corporate laws so as to undo aspectsof explicit contracts or the background terms of contracts that parties assumed wouldhave effect. Generally, this should not be a problem, because the company should beable to reincorporate. However, since Australia only has six States, it is easier for theStates to collude (for instance, at the behest of an interest group). The Commonwealthshould legislate to require that substantial changes to State laws affecting corporatecontracts be limited to comEanies newly incorporated.256 Existing companies wouldhave to opt in to the change. 57 The provision might look something like this:

(1) Where a State Parliament substantially amends its corporations law, or the Parliamentof the Commonwealth of Australia amends the Corporations Law, in relation to oneor more of the subjects stated by subsection (2), that change shall not have immediateeffect for an existing company (other than a shelf company) subject to that law. At thenext general meeting of the company, which may be called specially for this purpose,a motion for the adoption of the change shall be tabled. If the motion is not tabled, ora majority of shareholders resolve to adopt the change, the amendment takes effectfrom the time stated in subsection (3). If the motion to adopt the change is rejected bya majority of shareholders, the amendment has no effect for that company.

253254

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B S Black, above n 205.B S Black and R Kraakman, "A Self-Enforcing Model of Corporate Law" (1996) 109 Haro LRev 1911.Evidence indicates that in listed companies, share prices increase following anannouncement of reincorporation, so there may not even be a substantial risk in thesecases: see above text accompanying n 154.] C Coffee ]r, "The Future of Corporate Federalism: State Competition and the New TrendTowards De Facto Federal Minimum Standards" (1987) 8 Cardozo L Rev 759 and referencescited above in n 108.Managers who refused to table a motion in respect of the amendment, when it favouredtheir interests, could presumably be enjoined to do so (the right would seem to be theshareholder's individual right, not a corporate right), or sued for breach of duty.


(2) The subjects stated by this subsection are:

(3) A change to a corporations law takes effect for a company:

(i) where a general meeting is convened, and a motion is passed to adopt the changewhen the motion is passed;

(ii) where a general meeting is convened, and a motion is not tabled as required insubsection (l)-when the meeting is concluded;

(iii) where no general meeting is convened at which the motion might be consideredfrom the latest time at which the applicable law requires that the company hold itsnext annual general meeting.

A suitable range of areas would be defined, which relate to the corporate contractbetween managers and shareholders.258 Admittedly, the rule is an incompleteimmunity from changes to the law. It does not, for example, protect shareholdersagainst changes in doctrine effectuated by courts. Would the section be constitutional ifpassed by the Commonwealth Parliament? It does not purport to incorporatecompanies (which s 51(xx) prohibits);259 it merely operates with respect to existingcompanies. However, it is possible, but unlikely, that this provision would curtail thecapacity of the States to function as governments, since it limits their ability to passlaws which affect corporations.260

To conclude, the Commonwealth has a role to play in the state competitionprocess-a role which involves supplying the necessary choice of law rules, providingrules that protect the jurisdiction of State courts, writing appraisal rules to protectminority shareholders in unlisted companies, and protecting contracting partiesagainst midstream amendments by States. In short, the Commonwealth protects theintegrity of the process of corporate contracting and state competition.261

CONCLUSION

I would be the first to acknowledge that the proposed metareform of corporate lawrecommended herein is improbable. There may be substantial criticism of theCorporations Law from time to time, but that criticism is not complemented by a pushtowards state competition. The criticism can therefore only be addressed in a politicalframework which seems unlikely to get the right balance of solutions. TheCommonwealth has weak incentives to enact genuine enabling legislation. Theadoption of explicit efficiency goals makes little difference to the quality of the

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One problem is determining what matters of "substance" are, an issue I shall not discuss indetail. Some issues of "procedure" such as increasing the number of days a bidder mustgive shareholders to review a takeover offer can have substantial effect.The Incorporation case (1990) 169 CLR 482.Re Australian Education Union ex parte Victoria (1995) 128 ALR 609 at 629. If, as in that case,the Commonwealth can regulate the minimum wages of a State's employees, I see noreason in fairness it cannot protect shareholders against adverse changes in a State's laws.Ideally, the Constitution would protect the integrity of contracts from legislation thatwould change the terms of the exchange. Australia has no provision equivalent to thecontracts clause in the u.S. Constitution: art 1, s 10. For a discussion of the provision'sscope, see HN Butler and LE Ribstein, above n 20 at ch 2. If, however, the Commonwealthhas legislative power to protect corporate contracts, it should use it.


legislative output. Although interest group politics will never be vanquished, itscurrent manifestations in the law are undesirable and socially costly.There is accordingly a strong case for the break-up by the Commonwealth of itsmonopoly, competition between the States for incorporations, the establishment ofincentives for competition, and the enactment by the Commonwealth of laws toimprove the quality of competitive outcomes for shareholders. Despite the absence ofcalls for this reform, I believe it resonates with extant views of the role of competitionin public ordering in Australia-competition can improve the quality of outcomesdelivered by the public sector.262 Unfortunately, competition policy has baulked at thelegislative level, despite its increasing pervasion of public service delivery. Yet, incorporate law at least, there is no true difference. The government is providing aservice-it is establishing a set of rules that supplement private contracting, a forum inwhich to adjudicate on disputes, and supplementary procedures for enforcement (suchas criminal sanctions). Provided due attention is given to third party effects, the casefor competition in the supply, administration and enforcement of those rules iscompelling. The current government has made much of its credentials as a buster oflabour monopolies. It is time that it brought its enthusiasm in this area to othermonopolies and collusive deals, including its OUJn legislative arrangements. Corporate lawdeserves to be one of the first cartels to be broken, but I hope it will not be the last.

262 National Competition Council, Compendium ofNational Competition Policy Agreements (1997).

the political economy ofcorporate law reform in …the fact thata political dealis a stable one does...

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